Investing in Baidu: Opportunities and Risks

Is it too late to invest in Baidu?

This year, the Chinese tech giant came back from nowhere.

The stock price of Baidu (BIDU -4.92%) has increased by around 40% so far in 2018. Both the lifting of China’s zero-COVID restrictions, which should benefit the company’s advertising and cloud services, and the subsequent stampede toward all AI-related stocks sparked by OpenAI’s ChatGPT contributed significantly to the surge of the Chinese tech behemoth.

But after those big gains, is it too late to buy Baidu? Let’s see if the price of its stock is higher than its business.

What happened to Baidu in the last 12 months?

Baidu is the company that owns China’s biggest online search engine. Most of the money made by that core business and the portals and apps that go with it comes from selling online ads and other marketing services. In the third quarter of 2022, 57% of Baidu’s revenue came from its online advertising operations. A further 23% came from the company’s majority ownership in iQiyi (IQ -4.75%), one of China’s top video streaming sites. The remaining twenty percent comes from the company’s offline marketing operations (including its cloud platform). The umbrella term for Baidu’s artificial intelligence and cloud operations is “AI Cloud.”

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Here’s how these three main businesses did over the past year:

Baidu’s income from online advertising fell for two reasons: China’s economy slowed down because of the unpredictable COVID-19 lockdowns and fierce competition from Tencent’s WeChat, ByteDance’s Douyin (known as TikTok outside of China), and other popular advertising platforms. Even iQiyu had trouble getting new subscribers.

Baidu’s revenue from advertising that wasn’t done online kept going up, but the company’s growth slowed as big problems in the economy made companies spend less on big cloud and AI upgrades. Canalys predicts that Baidu’s AI Cloud will only have a 9% share of China’s cloud infrastructure in the third quarter of 2022.

That makes it fourth, after Alibaba Cloud (36%), Huawei Cloud (19%), and Tencent Cloud (16%). Baidu also says that the AI Cloud is still losing a lot of money but that its operating losses are getting smaller and smaller over time.

Separate the real market from the hype.

Although CEO Robin Li stated that the company’s core businesses “should move in a positive direction over the next few quarters,” Baidu did not provide any guidance for the previous quarter. According to analysts, the company’s revenues and profits will increase by 5% and 15%, respectively, in 2022. In 2023, it is anticipated that both sales and profits will increase by roughly 10%. This prediction is consistent, but it probably doesn’t account for the 40% increase this year so far.

Even though COVID-19 is becoming less of a problem in China, Baidu still hasn’t shown that it can keep up with WeChat, which combines search, news, messaging, gaming, and e-commerce features, or Douyin, whose short videos are shaking up traditional platforms like Baidu.

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Baidu’s AI Cloud is still a business that loses money and will continue to do so for the foreseeable future. Instead of making money, it will focus on launching new services like robotaxis and its upcoming “ERNIE” (Enhanced Representation through Knowledge Integration) chatbot instead of making money that can be counted on.

Baidu could eventually add ERNIE to its core services, just like Microsoft is doing with ChatGPT and its search and cloud services. This could make it harder for Tencent and ByteDance to compete with Baidu, but investors shouldn’t count their chickens before they hatch. They should also remember that Baidu launched ERNIE as an AI-powered language model in 2019, so this sudden change to a “chatbot” seems like an attempt to cash in on the recent ChatGPT buzz.

Baidu stock is still cheap, and it’s easy to see why.

Even after its recent rise, Baidu’s stock is still worth 16 times its future earnings. It may seem cheap, but it’s trading at a discount because its near-term prospects are still unclear. Baidu’s stock may continue to rise along with other Chinese tech and AI stocks because of recent news, but its long-term gains will be limited until its core businesses actually get better.

I don’t think it makes sense to purchase Baidu shares at this time because the company’s stock has outperformed its operations.

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