Baidu: A Sell As Management Is Panicking Because The Core Continues To Deteriorate

May 29, 2019 2:07 AM ETBaidu, Inc. (BIDU)118 Comments13 Likes
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Summary

  • Management has no strategy as the company's core search engine business continues to struggle.
  • The buyback is a panic move since management knew guidance would be perceived badly by the market.
  • Baidu's core advertising revenue and overall growth rate will continue to decelerate.

Growth always comes at a premium. Whether you're talking about Apple (AAPL), Google (GOOG), or Baidu (NASDAQ:BIDU), the market is excited by few ideas more than that of growth.

Today the reality is that Baidu's best days look like they are behind the company and the stock should be sold since the current management team has no plan to fix the fact that Baidu's core, the internet advertising business, continues to deteriorate.

Baidu's management team is panicking because the company's leaders have no strategy to offset the continued weakness in the company's core advertising business and management is using the recently announced buyback to cover up the fact that the company has no plan to fix what's wrong with the advertising business.

Still, despite Google basically becoming irrelevant in the Chinese market in the last several years, Baidu's stock price has been volatile over the last several years as the growth rate has slowed.

Baidu's share price plunged after management recently reported one of the most disappointing quarters in the company's history, and despite a decent recent run, the stock hasn't performed well over the last 5 years.

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Baidu recently reported decent revenue growth of 15%, but the company missed badly on earnings per share estimates, reporting earnings per share of $.41. Costs of revenues rose 50%, overhead costs grew by nearly 100%, and research costs grew by 26%. Margins fell to 7%.

If you look at Baidu's recent quarterly results in the context of the company's decelerating growth rate in the core advertising business over the last year, the last quarter should be very concerning. Baidu's market share in the Chinese search engine space has stabilized around 70%, but the company isn't growing advertising revenues at the same rate as in past years. Over the last 3 quarters, Baidu has grown revenues by 32%, 27%, and 22%. The company is spending more and growing less as competitors like Alibaba (BABA) and Tencent (OTCPK:TCEHY) (OTCPK:TCTZF) continue to force management to spend more just to maintain current market share. The only current plan here to offset the continued decline in core advertising revenue is to spend more, and that's failing and driving margins down.

Mobile is becoming bigger each year, and Baidu continues to struggle to monetize this new area as well as the company's core search engine space. Baidu has invested in AI, video stream businesses, and other ventures, but Baidu's core is still the advertising market from the company's core search engine business. Baidu continues to struggle with Chinese government regulations and a Chinese economy that grew at a historically slow rate in the second half of 2018. The trends that are hurting Baidu are accelerating as the company's growth continues to decelerate, and again, management is announcing buybacks rather than new plans.

This is why management's horrendous recent guidance and share buyback have created a disconnect between the company's leaders and the market. Baidu is a growth company that trades with a growth multiple. The company should be able to find better ways to return value to shareholders by investing in the business than simply buying back shares. The weak guidance and historically large buyback look like management is trying to use short-term measures to fix long-term problems. Baidu needs to show at least stabilizing growth in the core advertising business without compromising margins by overspending, and simple buyback does nothing to create confidence in the company. Baidu's management has lost credibility by blaming the recent festival for slowing ad revenue growth when the company's advertising revenue growth has been slowing for a full year.

Baidu currently trades at nearly 23x current full-year estimates of $5.82 a share, and the company's core advertising business continues to deteriorate as management spends while growth rates continue to slow. Baidu will have to continue to spend to diversify away from the core search business, and with companies like Alibaba and Tencent competing in search, the company has to spend more in this space as well. Growth companies should be able to maximize shareholder returns by investing in the business, not buying back shares. The recent buyback highlights what is becoming increasingly obvious to shareholders, management has no coherent plan moving forward.

Baidu is the strongest positioned company in the Chinese search engine space by far, and most analysts were bullish on the company's future when Google essentially pulled out of the market several years ago. Times have changed. Mobile has increasingly hurt Baidu's desktop clicks, the company's growth rate continues to decelerate, and Baidu seems to be suffering from a crisis of leadership. The market expects accelerating or at least steady growth rates from growth companies, and Baidu's falling growth rate and lower margins are warning signs that the share price will likely continue to fall until management addresses the company's many core problems.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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