In this article, I analyze Baidu’s (NASDAQ:BIDU) business segments separately, including ad business, cloud business, autonomous driving business, and iQIYI. I also discuss why Baidu’s brand image is improving, what keeps the stock price low, and what the valuation should be.
Over the past three years, short video platforms (such as Douyin and Kuaishou) have captured a significant portion of users’ time and took part of Baidu and Tencent's (OTCPK:TCEHY) advertising business. However, the recent trends show that the short video platforms’ growth is starting to decelerate. According to the most recent statistics published by QuestMobile, total usage time for Bytedance (including Douyin) increased from 12% to 21% of the total population, and Kuaishou increased from 4.4% to 10.2% from September 2019 to December 2021. Social communication apps such as Tencent and other smaller players were hurt the most in usage time. However, we see usage time on Baidu Group (including iQIYI) stay relatively stable in recent years, and the 0.3% drop was mainly from iQIYI. Search engines are resilient in this competition as people’s search queries stay relatively stable.
Figure 1: Total Usage Time on Leading Internet Platforms in China
Baidu App MAU (not including iQIYI) grew at 13% YoY in the most recent quarter, which is much higher than the mobile user population growth of 2% YoY. Baidu App’s monthly active users figure currently ranks fifth, only behind WeChat (1b MAU), Douyin (670m MAU), Taobao (856m MAU), and Alipay (788m MAU), but it remains ahead of Kuaishou and Weibo in China.
Figure 2: Baidu’s MAU
On the digital advertising revenue side, what Baidu is facing is similar to Google (GOOG) in the U.S. They both specialize in search ads and both target audiences who are already searching for certain product or service, which means they face less of a threat compared to publishers that target “cold” audiences using feed ads. For example, a hair transplant service provider can promote its business much better by placing search ads in a “hair transplant” keyword search compared with targeting broader audiences in other publishers. Despite the success of short video platforms, for certain types of products or services, search ads are always the best use of budget allocation.
Search engine business comes with significant network effects, and its leading position is hard to break. Firstly, search engines require high cost in building the technology — natural language processing, image recognition, knowledge graphs, etc. — and it also takes years of collecting user query and user click data to optimize the algorithms. Secondly, this market difficulty can be demonstrated by the oligopolistic landscape in different countries. Google takes about 88% market share in the U.S., Yandex takes about 65% market share in Russia, Naver takes about 60% market share in Korea, Baidu takes 74% market share in China, and there are no obvious competitors to challenge this competitive landscape. Despite that, Bytedance launched its desktop search engine Toutiao Search in 2021. The search speed is about 30% slower than Baidu, does not provide as much information as Baidu, and is not used by the general public. Baidu’s search ad business is protected by a deep moat, and from the current growth, we only see the moat getting deeper.
Figure 3: Search Engine Market Share in China
According to IMZ Lab, the digital advertising market share is getting more concentrated. Bytedance’s market share increased by 2%, and the top 5-10 players’ market share increased by 3%, primarily from Kuaishou and Meituan. Despite Douyin and Kuaishou taking the pie, Baidu still holds its market share relatively stable. In the most recent quarter, Baidu’s ad revenue only declined by 4% YoY, better than Tencent’s ad decline of 18% YoY, but still lower than Kuaishou’s ad growth of 30% YoY. Note that Kuaishou’s ad growth is decelerating and declined from 95% growth in 2021. Bytedance took part of Baidu and Tencent’s ad business, but today Bytedance’s ad revenue is already about twice that of Baidu, and 70% of its ad revenue is from Douyin. We see Bytedance’s impact has decelerated, and Baidu does not have much to worry about.
Figure 4: Digital Advertising Market Share in China
In the Baidu Q1’21 earnings call, its CEO Robin Li said,
“We’ve been investing in AI for more than 10 years, and in the next three years, Baidu’s non-ad business revenue could possibly exceed 50% of Baidu core revenue”.
If achieved, Baidu will be valued by a much higher multiple. In the most recent quarter, the non-ad core business revenue is Rmb 5.7b, including Rmb 4b of Cloud and Rmb 1.7b of Xiaodu (DuerOS) & Apollo combined. Currently, Baidu Cloud is growing at 45% YoY, much higher than Alibaba Cloud’s (BABA) growth of 12%. If Baidu Cloud revenue keeps growing at 46% YoY over the next three years, it could make up 28% of the total non-ad core business in 2024. The revenue forecast toward the end of this article shows this is highly achievable.
Figure 5: Disaggregation of Baidu Revenue (in billions RMB)
Baidu Cloud generated Rmb 9.3b revenue in 2020, or 16% of BABA's cloud revenue in the same period. The ratio further increased to 21% in Q1’22 as Baidu Cloud's growth accelerated (+48% YoY in Q1’22). Baidu Cloud is more focused on PaaS and SaaS, which take >50% of the total cloud revenue, while others would only have 30% total cloud revenue from PaaS or SaaS. Baidu Cloud specializes in AI, and according to IDC, Baidu Cloud is the largest player in China's AI cloud market with a 33% market share in 2020. Despite the AI cloud market still being relatively small (RMB 18.7b in 2020, 15% of the total public cloud market), it is expected to grow faster (43% vs. 35% '20-'25 CAGR) due to strong demand from various industries. IDC classifies six specific categories of AI cloud, including video and image recognition technology, NLP (natural language processing), conversational AI, voice recognition technology, face & body recognition technology, and machine learning. Baidu tops the specific categories of NLP, image technology, and face & body recognition technology. This success follows through to Baidu’s edge in the NLP and image recognition technology in the search engine business.
Figure 6: AI Cloud Market Share
Baidu Cloud’s fundamental AI capabilities — NLP, image recognition, knowledge graph, etc., are highly transferrable, and thus can be implemented in various industries. Below is a brief summary of what Baidu AI Cloud can do in different industries. Looking into the use cases, we find Baidu AI Cloud is replacing some low-skill labor, such as defects inspectors (manufacturing), customer service specialists (banking), content moderators (media), etc. What can be expected is that AI capabilities have a long runway to become smarter and more influential in human lives. Three examples of what AI can do better than humans are shown below.
Table 1: Baidu AI Cloud Use Cases
Figure 7: Baidu’s Smart Transportation Cloud Control Panel
Figure 8: Baidu Kaiwu Smart Inspector
Source: Baidu YouTube
Baidu did not disclose how much it has invested into autonomous driving, but since 2015, which is the year Baidu founded autonomous driving unit, Baidu cumulatively invested over $17b into R&D and $7b into CapEx (2015-2021). The majority of the R&D investment is thought to have gone into smart transportation and autonomous driving. Baidu’s cumulative investment in autonomous driving/smart transportation could exceed $10b. Looking across the world, the companies that invested this much into robotaxi business (Level 4+) are only Waymo (owned by Google) and Cruise (owned by GM), and these investment candidates are only a few in the global capital market. Both Waymo and Cruise are valued over $20b, while Baidu’s total market cap is only $50b.
Figure 9: Baidu R&D Expense(in millions RMB)
What does Baidu get out of this huge investment?
Table 2: Baidu Apollo and Pony.AI Comparison
Source: Official websites
Figure 10: Three Revenue Source of Apollo
Source: Baidu Disclosures
Figure 11: Autonomous Driving Patents Ranking in China
Baidu and Geely’s joint venture Jidu (Baidu owns 52%) launched its first concept model, Jidu Robo 1, in June 2022. This concept model follows the concept model Robocar that Baidu launched during Baidu World 2021. The highlights include:
Figure 12: Jidu Robo 001
Source: News Releases
Both Apollo and Pony’s robotaxi are open to the public in Beijing, and in March of this year, I tested both and was impressed by both. I was especially impressed by Baidu’s traffic lights and robotaxi connection capability, allowing Baidu’s robotaxi to synchronize the counting down seconds of the traffic lights through its V2X technology (even though the traffic light is beyond detection distance), and this could make travel time more predictable and optimize travel routes in the future. What could be improved was that Baidu sometimes performed more conservatively than Pony and had hard breaks if other cars abruptly cut into our lane, but it overall met my expectation. Robotaxi’s success is dependent on two things — technology and commercial capability. I believe Baidu has a significant edge over Pony.AI due to its sufficient cash position, the scale it has reached, and the brand it has already built.
Autonomous driving could be the next wave of technology advancement in next three years. According to Lux Research, the operating cost of a robotaxi is only ~$0.46 per mile in the U.S., and current fare is $2 per mile in the U.S., meaning that the robotaxi provider is able to earn 50% gross margin from $1 per mile offered, a 50% discount to current fare price. Moreover, it’s also much greener, as it’s powered by electricity and could have a central transportation cloud to optimize routes, which could save 52% on carbon emission. If you want to invest in autonomous driving, the best is definitely to invest in data and algorithm owners, such as Tesla, Cruise, Waymo, or Baidu, rather than lidar companies. Hardware can only get cheaper, but the data/algorithm owners have strong network effects, and their advantage could only get deeper over time. The logic is similar with search engines.
Autonomous driving could be commercialized faster than expected. In July 2021, Beijing announced that the new Daxing Airport Express Highway and partial south Fifth Ring and south Sixth Ring Roads (marked in red below) are included in the Autonomous Driving Demonstration Zone, which allows providers such as Baidu and Pony to test robotaxis. This prepares the robotaxi services to further expand their operating area from Yizhuang to the Daxing Airport and charge fares for the airport trips in the future. The Daxing Airport lacks nighttime public transportation service after 10:30pm, and a robotaxi could be best utilized then as there is almost no traffic on this highway, and a robotaxi can never be tired at night. With this service to be provided in the future, passengers could take a robotaxi at midnight at the airport and travel to the Yizhuang area. I expect this service to be provided before the end of 2023.
In June of this year, Cruise started to provide full driverless robotaxi service to the public between 10pm to 6am in a partial city area of San Francisco, which is a big step forward in U.S. autonomous driving history. I expect that its service would expand to the San Francisco airport in less than 1.5 years. Following Cruise, Baidu will provide the same type of service in Beijing, and I believe this will serve as a catalyst for Baidu’s stock.
Figure 13: Apollo Operation Area (in Blue) and New Roads Open for Testing (in Red)
People always underestimate how important public relations is for a company. Take Facebook as an example. After the Cambridge Analytica scandal in 2018, the company had to do more work to earn trust from both the users and the government, which led to difficulties in launching cryptocurrency initiatives, doing M&A, having users turn on tracking, etc. This partially resulted in rebranding, and the company renamed it to Meta.
After making enormous investments in AI and autonomous driving for more than 10 years, the public in China gradually realized Baidu is the tech giant that carries the technology innovation initiatives and receives praise. This is in contrast with the public’s blame of other tech giants invested in entertainment or zero-sum games, such as Tencent’s investment in games (entertainment), Bytedance’s investment in the addictive algorithm of Douyin (entertainment), or Meituan (OTCPK:MPNGY) subsidizing its fresh food business heavily to bail out competitors (zero-sum game) and merging with Dianping to dominate the locally found service business. Despite Baidu’s medical ad scandal in 2016 that was broadly criticized, we see Baidu’s image today is leaning more towards being a tech company and is getting more positive in the public eye. This public image helps Baidu execute its AI cloud and autonomous driving plans in each local area, as these involve local government support and the public’s championship.
We clearly see Baidu increasing its public exposure in the recent two years and becoming more high-profile in showcasing its technology. For example, Baidu World 2021 was hosted on state-owned television CCTV’s livestreaming to showcase its AI offerings, which lasted three hours and covered its driverless car, AI cloud, etc. Baidu launched its AI sign language anchor to offer sign language on CCTV during the Winter Olympics, and Baidu actively showcases what can be done with its AI on its social media channels, including YouTube, WeChat, etc.
iQIYI was a cash burning machine over the years and had a cumulative loss of $7b in its history, but it turned a profit recently for the first time since IPO. Thanks to the 7.7 basis point increase in gross margin and 9.6 basis point reduction in operating expense as percent of revenue. iQIYI currently has a non-GAAP net operating margin of 4.5%, and Baidu holds ~57% of iQIYI.
What’s also positive about iQIYI is that its ARPPU increased 8.8% to Rmb 15/month due to the recent increase in membership fee. The ARPPU increased in the past nine consecutive quarters.
Figure 14: Operating Income and ARPU of IQIYI
Source: iQIYI Earnings Release
Utilizing the sum of parts valuation method, Baidu’s target price is $275, or $80b enterprise value. Under this valuation method, core advertising is valued at 8x EBITDA multiple, Baidu Cloud is valued at 6x EV/S, Xiaodu and Kunlun chip are valued according to their recent financing, and Apollo is valued conservatively at ~$15b, compared with Waymo or Cruise at ~$20b. Baidu’s current market cap is ~$50b, only covering the value of advertising business and net cash ($15b). The other critical parts (Apollo, Cloud, Xiaodu, etc.) are not priced in. Baidu’s long-term investment can also be valued at $5b, as these include some quality investees such as Net Ease Music, Hesai, and WM Motors that are about to be public. Due to Baidu having to hold a certain equity percentage to maintain the relationship with certain partners, I give a 50% discount to the fair value on balance sheet.
Stable advertising business and net cash offer a very significant downside protection, while Apollo and Cloud offer ideal upside potential.
Table 3: Sum of Parts Valuation
There are two main factors that currently impacts Baidu’s valuation:
Baidu has invested heavily into AI and autonomous driving, which have not contributed much to the revenue yet. Due to the lack of revenue growth, and the market generally lacks patience in slow revenue growth companies, Baidu's valuation multiple is low. However, in the next three years, I estimate that both AI Cloud and autonomous driving business will grow exponentially. In 2024, non-ad business could take 50% of total core revenue. Cloud business could take ~28% (46% CAGR), the rest (Apollo, Jidu, Xiaodu, Kunlun) could provide the remaining 22%. Of those, Jidu could easily contribute Rmb 17b revenue in a year (120k delivery in a year), or 10% of total. Total revenue could grow from Rmb 125b to Rmb 215b. By that time, Baidu will have a higher valuation multiple due to more tech components. The best trading strategy is to hold it for three years.
Table 4: Baidu's 2024 Revenue Estimated
Core - Advertising
86b (Est. 5% CAGR)
Core - Cloud
48b (Est. 46% CAGR)
Core - Apollo
4b (2b from Robotaxi)
Core - Jidu
17b (Est.120k delivery)
Core – Xiaodu & Others
15b (Est. 44% CAGR)
45b (Est. 15% CAGR)
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Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.