The Chinese Internet search engine Baidu, Inc. (NASDAQ:BIDU) has certainly proven itself to be one of the top performers of the worldwide Internet scene. In China, Baidu accounts for 76% of the search engine market, with closest competitor Qihoo 360 Technology Co. (NYSE:QIHU) accounting for only 16.4%. Following extraordinary earnings announcements, the stock has achieved a four-year high. It seems as if there is nothing stopping the stock from a further surge up, especially after its mobile and healthcare expansion. However, the risk is still present and needs to be analyzed.
Baidu's investors were generously rewarded when the stock price jumped by more than $20 following a positive earnings announcement. The second-quarter 2014 results have shown a 58.5% increase in total revenue and 34.1% increase in net income since 2013. Furthermore, the balance sheet shows a clear expansion in total assets and the total equity, hinting at continuing price rise.
A superb earnings announcement has contributed to a great boost in the company's mobile investment. More than 30% of Baidu's revenue came from the mobile devices, which is no surprise as its mobile search service reached 500 million users.
In particular, the company's mobile dominance was helped by mobile application Simeji. The app was bought by Baidu in 2011 and allows users to convey emotions by the use of mixed keyboard characters. Since then, the app was downloaded more than 10 million times on Android devices. The primary reason for its great popularity is due to the app's great appeal to teenagers. The creator of the app -- and now manager of the mobile product department of Baidu Japan -- Rin Yano sees great potential for the app to expand to Japanese soil. If the app's popularity gets anywhere close in Japan to what it is in China, Simeji will greatly contribute to the return on the company's mobile expansion investment.
Heathcare Market Entry
Baidu has announced yet another project they were working on, which promises to enhance the distance healthcare management experience. A 2014 research report has shown that China's mobile healthcare market is likely to hit $19 billion CHY in 2018, equivalent to $3 billion USD. Baidu's new service Jiankangyun aims to utilize healthcare information in order to form pre-diagnosis health assessments and ultimately help users prevent illnesses. Two advantages separate the company's technology from competitors: big data access and a recently changed government stance to allow the company to operate in the healthcare field.
The interesting thing, however, is that Baidu will not be building the entire infrastructure of the project on its own. Similar to Apple (NASDAQ:AAPL), Baidu will provide the hardware devices necessary for healthcare assessments such as wristbands, while letting others develop applications on the open platform. The company has large goals for the future, such as enlisting more hardware manufacturers and even working with weight-loss specialists.
All the recent news and events are clearly reflected in the price of the stock. Baidu was also able to break the $200 level, which helped it achieve a four-year price high. The further uptrend is highly likely due to the one-year return of +57.3%, the current P/E ratio of 38.84, and estimated PEG ratio of 1.2. It is safe to assume that Baidu could reach $300 by the end of the year.
Although it seems that nothing can stop the stock from rising further, financial markets have proven that there are always two sides to any investment. So what are the risks associated with Baidu and the technology sector in China?
First, the great expansion of the Simeji app has caught the attention of the Japanese government. It warned that certain software that was used for writing on computers could lead to security leaks. The Japanese government started questioning Baidu. However, all allegations were dropped once the London-based certification organization Intertek Group certified Baidu's editing software. Although resolved, the incident shows that the company's future presence in Japan can be threatened, especially with the growing political tensions between the two nations.
The second risk is posed by an expansion into a completely different market. It's obvious that if anyone at all can conquer a new market, Baidu certainly can. However, the risks can't be disregarded. In an almost completely different area with fewer regulations, things are likely to be somewhat messy. One of the issues is that the market is already awash with smart healthcare tracking devices. Furthermore, some allegations were made about the prospect of a user's health information falling into the wrong hands, if left without adequate protection. This could result in the information being sold to banks and insurance companies for a fee, which would be disastrous for the company.
The biggest question to ask is: Can the Chinese high-tech sector sustain its booming growth? So far, Chinese R&D spending has been rising by 20% a year, to about $300 billion annually, and produces a million engineering students annually. However, the sector has many flaws. The China Association for Science and Technology states that about 60% of government funding for R&D is misappropriated. Furthermore, China is known for its low quality of patents, where only a third of total annual patents are approved. Total factor productivity is also seeing a decrease, with the 2007 improvement rate being halved by 2014. However, these trends are completely reversible and are reinforced by Chinese leaders who are currently tackling the issue.
Baidu is a dominant force in China's Internet market and is often compared to the scale of Google (NASDAQ:GOOG). With its stellar earnings momentum and new exploration into the mobile and healthcare market, the stock looks unstoppable. The risks are still present, but are mostly overshadowed by the company's outstanding performance. Baidu certainly has not achieved its full potential yet. There is still plenty in store for those who are interested in getting a piece of the action.
Disclosure: The author is long BIDU. The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.