Qihoo At Search Milestone, Revenue Elusive

Aug.25.14 | About: QIHOO 360 (QIHU)

Rising online search star Qihoo 360 (NYSE:QIHU) has reached a major milestone, winning 30 percent of China’s traffic for the first time just 2 years after the launch of its So.com search engine. Despite that huge achievement, Qihoo’s newly released quarterly results show it’s having a harder time monetizing its search business, which may partly explain why its shares are down 20 percent since a peak in the spring. From the perspective of an observer, these latest signs still look quite encouraging and might even prompt a Qihoo skeptic like myself to consider buying the company’s stock at its current price.

Qihoo achieved its milestone on August 21, when its share of the China search market for page views and unique visitors officially clocked in at about 30.2 percent, according to CNZZ, the independent web traffic tool owned by Alibaba. By comparison, industry leader Baidu’s (NASDAQ:BIDU) share came in at about 53 percent, while the third largest player, Sohu’s (NASDAQ:SOHU) Sogou logged about 13.5 percent.

Qihoo’s steady gains are quite remarkable for such a young search engine, and reflect a number of factors. The company’s controversial founder Zhou Hongyi was one of China’s earliest pioneers in the space, setting up a search engine more than a decade ago that became the country’s leader and which he eventually sold to Yahoo (NASDAQ:YHOO). The company’s current So.com also incorporates a number of innovative features and benefits from traffic sent to it by Qihoo’s other products.

I’ll admit I haven’t used So.com before, but perhaps I’ll give it a try as there are many things I don’t like about current leader Baidu, which has become a Chinese Internet superstar by successfully monetizing its own search business. Baidu’s search results are notoriously non-transparent, cluttered with paid links and links that favor Baidu’s own sites. That means users often have to plow through several pages before finding any results that are useful.

I’m sure Qihoo probably engages in similar practices, though perhaps not as egregiously as Baidu since it’s still trying to build an audience. Despite So.com’s huge gains in search, Qihoo’s latest results show just how far the business has to go before it becomes a serious revenue and profit engine. The search business is mentioned numerous times in Qihoo’s announcement, which was released over the weekend. The closest the company comes to giving any actual figures is its comment that search was an important factor in its online advertising revenue growth of 89 percent.

The lack of any solid figures given for search means the business is almost certainly still quite small, perhaps accounting for as much as $20-$30 million of Qihoo’s $171 million in second-quarter advertising revenue. By comparison, Baidu logged a massive $1.9 billion in search revenue for the second quarter, or about 70 times Qihoo’s figure, based on my own estimate.

All that said, Qihoo has proven itself quite competent at turning its new businesses into profit centers. Baidu itself took quite a while to perfect its current system, which really only began to show big results in the last 4 or 5 years, even though the company itself is more than a decade old. I expect Qihoo will probably be able to achieve similar results a little more quickly, and could start to get some significant contributions from search in the next 2-3 years.

Looking at the company’s stock, Qihoo now trades at a relatively rich but not unreasonable price-to-earnings ratio of about 90. Its shares are up 20 percent from the beginning of the year but down 20 percent from a peak in the spring, probably reflecting some investor impatience with the search monetization. But for anyone who does have some patience, the stock certainly could look like a good buy for investors willing to hold it over the next 2-3 years.

Bottom line: Qihoo’s stock could be a good bet for buyers patient enough to wait for it to monetize its fast growing search business over the next 2-3 years.

Disclosure: None