The China technology stocks fell hard last week in response to not just global macro-economic concerns, but also China-specific issues. This included a softer September PMI for China that indicated a slight contraction in the manufacturing sector, government censorship concerns in the internet sector, and regulatory concerns on the “Variable Interest Entity.” Overall, the Guggenheim China Technology ETF (CQQQ) ended down 17.6% last week. The following is our review of the major news and price moves among stocks in the group.
Sell Sina Corp. (SINA): SINA is a Chinese internet portal offering media content and services for China and global Chinese communities through SINA.com, Weibo.com, and SINA Mobile. It was among the worst losers among major China technology stocks, with shares falling 21.2% last week. The fall was driven by concerns that the Chinese government is aggressively tightening its grip on the country’s Internet sector, including SINA’s Weibo micro-blogging service, in an attempt to stifle grassroots civic and pro-democracy movements that may take inspiration from recent events in the Middle East. Furthermore, prices also fell in response to reports that the Chinese government was considering new regulations for the VIE structure that has been used by SINA and many other China-based firms in listing overseas, in an attempt to restrict foreign ownership of Chinese companies.
At Friday’s closing price of $86.91, SINA trades at a premium 61 current P/E based on trailing-twelve-month (TTM) earnings, while earnings have fallen sequentially every quarter for the last four quarters to 20c in the latest June quarter. Even with the projected earnings recovery next year, shares still trade at a projected 54 P/E based on 2012 earnings while earnings growth is projected at almost flat and revenue growth in the low teens between 2008 and 2012. This is a sharp premium to its internet peers Baidu Inc. (BIDU) which trades at a projected 28 P/E based on 2012 earnings, while earnings growth has been projected at 68% between 2010 and 2012; and Sohu.com Inc. (SOHU) that trades at 10 P/E based on 2012 earnings, while earnings growth has been projected at 17% between 2010 and 2012.
Much of this premium has been built into the stock after SINA launched its Twitter-like Weibo service in August 2009, and it seems that its non-Weibo business is probably worth $30 to $40 per share, based on comparables. Although it is very likely that SINA will ultimately survive and even thrive despite this dual threat to its business, we believe that its shares will remain under pressure with Weibo currently in the Chinese government’s cross-hairs. As such, we believe that its shares are unlikely to break-out to the upside in the short- to intermediate-term above its 50-day and 200-day moving averages in the $100 range. Hence, we would be sellers into any rallies above $90-$95.
Buy Baidu Inc. (BIDU): BIDU is a leading Chinese provider of internet search, targeted online advertising and other internet content services. Often touted as the Google (GOOG) of China, its shares were the highest dollar losers in the China technology group, falling 16.2%, or losing $8.3 billion, in market-cap last week on no company-specific news. Rather, the fall was driven based on overall weakness in the markets, and in China technology issues as related to the regulatory impacts discussed above for SINA.
We believe BIDU is a compelling buy at Friday’s closing price in the $120s, trading at 28 P/E based on 2012 earnings while both revenues and earnings are projected to grow at 65%-70% compounded growth rate between 2010 and 2012. Furthermore, it generates stellar gross and net margins at 73% and 45% as in the latest June quarter, and it has a strong balance sheet with over $1.6 billion in cash and short-term investments and almost no debt. We believe that shares could easily hit $150 based on the current fundaments. Furthermore, BIDU could go much higher in the longer-term as the Chinese Internet market is still undergoing rapid growth, and the company has a track record of capitalizing on that and delivering consistently superior results.
Buy E-commerce China Dangdang (DANG): DANG is a Chinese online retailer offering books and other media, personal care and general merchandise via Dangdang.com. Often called the Amazon (AMZN) of China, DANG is the number two e-Commerce player in China, behind TaoBao. Its business model is similar to AMZN except that it employs a courier-based delivery system that collects cash on delivery. Its shares fell 19.5% last week on no company-specific news, but in tandem with the market and other China technology issues.
We believe that DANG shares are a bargain at Friday’s closing price of $5.52, now down 84% from the $34.46 peak that the shares hit in the days after the IPO in December 2010. While the company missed estimates in its most recent June quarter (6c losses versus 2c loss estimate), it beat revenue estimates ($122.3 million and $120.6 million) and guided September revenue higher (RMB 916-928 million versus RMB 895 million). Furthermore, revenue is projected at 56% compounded growth rate from $346 million in 2010 to a projected $838 million in 2012.
The disappointment apparently is that gross margins have been weak, falling to 14.3% in the June quarter from 19.8% in the year-ago quarter, which at least in part can be explained by a change in its revenue mix to higher-ticket price general merchandise. This has also led to higher operating losses despite a decrease in operating expenses, which means that the gross margin contraction was just too severe to support the business infrastructure needed for the company to sell its general merchandise.
We believe that this is part of a growing pains challenge as the company ventures into the general merchandise category and strengthens its fulfillment capabilities, and that it may ultimately have to either raise prices or lower supply and operating costs to improve operating performance. Overall, we believe that DANG is a good buy here based on a comparison of its revenues, growth and market-cap to Amazon in the late 90s when it was at a similar stage in which DANG finds itself now.
Youku.com Inc. (YOKU): YOKU, China's largest video-streaming company, is more popularly known as the YouTube of China. However, in reality, it is more a combination of Netflix (NFLX) and YouTube. Netflix, because it offers mostly professionally-generated content licensed from movie studios and TV companies, and YouTube due to its reliance on advertising as a main source of revenue. The stock fell 13.3% last week on no company-specific news, but in tandem with the market and other China technology issues. We reviewed YOKU on August 15th soon after the company reported its June quarter, and we stand by our earlier bearish assessment on its challenges with respect to a tough competitive environment and our concerns about the potential profitability of its operating model.
Buy Renren Inc. (RENN): RENN, often called the Facebook of China, is a Chinese operator of a social networking platform that enables users to communicate and share information via Renren.com. Its shares fell 21.0% last week on no company-specific news, but in tandem with the market and other China technology issues. With an IPO priced at $14 in May, it peaked that day at $24 and is now down almost 80% from that peak.
We believe that at Friday’s closing price of $5.27, RENN shares are a bargain. The company is a leader in China in the social networking space with over 50% market share, and it has over $1.2 billion in cash and short-term investments or over $3 per share in cash, with no debt. Revenues are projected to grow at 60% compounded growth rate from $76 million in 2010 to a projected $190 million in 2012, while the company is expected to narrow losses and turn profitable in 2012. Its gross margin grew to 80.9% in the June quarter versus 80.1% in the March quarter and well above 76.3% in the year-ago quarter.
Furthermore, the company has ample opportunities to take advantage of its market leadership and strong network effect to enable it to expand more aggressively into gaming, group-buying and other associated new services. We believe that current prices present a compelling opportunity to get into this online social networking leader at a bargain basement valuation of less than $1 billion, after taking out cash and short-term investments, especially when compared to Facebook’s current valuation in the $50+ billion range.
Focus Media Holdings Ltd. (FMCN), Sky-mobi Ltd (MOBI), China Techfaith Wireless (CNTF) and Camelot Info Systems (CIS): FMCN is a Chinese provider of audio-visual digital advertising through 131,006 flat-panel and 324,364 poster frame displays; MOBI is a China based operator of Maopao mobile application store providing single-player games and mobile music and books; CNTF is a Chinese designer of smart phones, feature phones, wireless modules, data cards, and printed circuit board assemblies; and CIS is a Chinese provider of customer relationship management and supply chain management software for enterprises.
All four stocks were weak last week, with MOBI falling the most at 24.5%, CNTF falling 18.8%, and both FMCN and CIS falling 15.9%, all on no company-specific news, but on general weakness in the markets and China based technology issues. Of these, FMCN and CIS present the most compelling opportunities. FMCN trades at the bottom of its current trading range at 14 P/E based on 2012 earnings, while earnings are projected to increase at 27% compounded growth rate from $1.20 in 2010 to $1.93 in 2012. Furthermore, CIS also trades at the bottom of its current trading range at 4.7 P/E based on 2012 earnings, while earnings are projected to increase at 12% compounded growth rate from 69c in 2010 to 85c in 2012.
click to enlarge
Please note that the cumulative price change referred to in the last column of the table above is used here as a measure of volatility to determine big movers in the group. It equals the sum of the absolute value of the change in daily prices. So, for example, if a security had price moves of 2%, -3%, 4%, -6% and 1% during the five days of the week, the cumulative price change during the week would be the sum of the absolute values of the daily price changes, which in this case would be 16%.
Credit: Historical fundamentals including operating metrics and stock ownership information were derived using SEC filings data, I-Metrix® by Edgar Online®, Zacks Investment Research, Thomson Reuters and Briefing.com. The information and data is believed to be accurate, but no guarantees or representations are made.