When I was in elementary school, the teacher once caught a student sitting next to me copying my answers -- I wasn't a participant in it -- not during the exam, but while grading it. The poor fellow mindlessly copied my student ID along with the answers.
So I laughed out loud when I read the news that Baidu (BIDU) is launching Android phones to bite into the mobile market in China. Baidu has been a diligent Google (GOOG) copycat throughout its corporate life. It has introduced almost everything Google has. Now that Google has gotten approval to acquire Motorola Mobility (MMI) and will own a smartphone hardware business, Baidu has copied that too. It's almost a cruel joke when a mindless copycat copies even bad decisions made by the market leader.
Why go rushing into the smartphone hardware business? Baidu is a software-centric search engine business. Its profit margin is many times most smartphone hardware companies'. Why dilute its own valuation?
The only answer is as follows: This indicates Baidu has a problem, and we have already seen the tip of the iceberg during its most recent earnings -- its growth is going to slow down at an alarming pace. Baidu saw its revenue and gross margin skyrocketing for the past two years due to the monopoly after Google left China over a political dispute. Now that free lunch has come to an end.
Baidu had a lack of ideas to find new revenue streams, so it went back to what it's good at: copying Google. But as I have pointed out previously, Google's acquisition of Motorola seems a little overpriced. In addition, other than the patents it will acquire, Motorola's hardware business is very inconvenient for Google because of the following: 1. its low margin will drag down Google's valuation, 2. Google has no expertise in managing a hardware business, and 3. competition in the hardware market creates huge pressures on profit margins. In fact, I would argue that Google should dump the smartphone business to an appropriate suitor as soon as possible.
Google also faces serious problems growing at a faster pace, as it is saturating the search advertising market and having problems penetrating the display ad market and possibly expanding beyond the advertising business itself. Due to Google's relatively modest valuation, however, its stock doesn't have a large downside risk.
Baidu, however, still commands a very rich valuation. Its stock could have an avalanche if it doesn't grow consistently at an above 50% pace. That seems an unlikely dream given Baidu's knee-jerk move into the smartphone market.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.