Currently, Baidu is trading at 26x cash on hand (For perspective, even the almighty Google trades at 12x cash on hand). Book value for Baidu is around 170 million. Baidu trades at 25x book value (Google is at 8x, which probably includes a lot of intangibles and goodwill). Owner earnings in FY06 were 50 million. That’s around 85x FY06 OE (owner earnings). If Baidu were not to grow at all, it would take 85 years to recoup our initial investment of 4.25 billion. We know, of course, that there is a strong likelihood Baidu will grow, so it becomes a question of how much the company will grow and how much we want to pay for this growth.
According to analyst estimates, growth is pegged at 50% per year for the next five years. That’s a very high growth rate, but Google (GOOG) did it so the average person says, “hey why not Baidu?” Let’s use the 50% growth rate and apply it to owner earnings [OE]. The 2006 is actual and the rest are estimated.
2006 OE = 50 million (approximate/actual)
2007 OE = 80 million
2008 OE = 120 million
2009 OE = 180 million
2010 OE = 270 million
In 2011, we’ll slow it down to a 30% growth rate. This gives us a figure of 350 million.
Now, let’s use a multiplier of 30 X owner earnings of the estimated 2011 figure. I use 30 x because I don’t believe 50% growth is sustainable and the market likes to use a multiple of future fiscal year earnings. In this assumption, 2011 will see a 30% growth rate. So in 2010 we’ll be multiplying 30 x the estimated 2011 owner earnings figure. Why the market likes to use future estimated earnings I have no idea. Even more alarming is why we like to use such extremely high growth rates and get ahead of ourselves, but that’s another topic all together.
So, 30 x the 350 million yields us 10.5 billion. We’ll also have about 650 million cash in the bank. We’re not even going to discount here. This is meant to be simple.
With a market cap of 10.5 billion, we would have a share price of approximately $290 (I’ve multiplied shares outstanding of 36 million which assumes some options dilution x the 350 million expected owner earnings in 2011). That’s a 125% increase over today’s share price of $130.
Wow, that’s a nice little gain in 3 years, but I have some issues with this stock and this company.
First of all, their financial reports are the bare bones minimum. They’re 6k filing is around 15 pages long. Most large US firms have 100+ page annual reports. Everything is disclosed, and many things are done so more than once. Sohu.com (SOHU) and Sina.com (SINA), Baidu’s main competitors, have adopted US Sarbanes Oxley accounting standards. Baidu has not.
Second, Baidu’s current traffic rank in China is #1 according to alexa.com, but their 3 month growth rate in global internet site traffic growth is down 19%. Baidu’s global internet site usage currently sits at 5.75%. They’re growth is also limited largely to the Asian community. 94% of all Baidu users are from China. Internet users in China are estimated at 150 million and growth is at about a 10% clip. This is very good, but I don’t think it justifies the 50% growth in net income analysts are expecting.
Last and most importantly, Baidu is seeing competition from Sohu.com. Follow the link to this article from Forbes. It discusses internet growth rates in China and also Baidu’s competition which is mainly Sohu. Another key consideration is that Sohu.com is the official sponsor of the 2008 Olympics. Again, the almighty Baidu, the supposed Google of China, is not.
My personal valuation for Baidu in 2010 isn’t anywhere near $290 per share. I see at most, a more realistic 30% growth rate which would put 2011 owner earnings at 185 million. 30 x 185 million is 5.5 billion plus the 400 to 500 million cash on hand. This would support a market cap of 6 billion. This gives me 2010 share prices of $167.
This is a 28% premium to today’s price of $130. So my 4 year gain is 28% at a 30% growth rate. Downside risk in this stock is very high.
Here’s a link comparing site usage for Baidu, Sina, and Sohu.
I think a prudent investor would also make a visit to each site. I know I did and when I went to Sohu what instantly jumped out at me was the number of ads that skirt the edge of the page. At Sina, I immediately recognized a Wal-Mart ad.
At Baidu, I didn’t see any ads. It is set up much like Google so I typed in a search for basketball and I received numerous matches. However, unlike Google, where there are numerous ads affiliated with my search found on the right side of the page, with Baidu I found none. They likely have a similar model to Google but I don’t know because as I alluded to earlier, their annual report is about 15 to 20 pages long.
BIDU 1-yr chart