Throw This Stock Away

I'm no homer when it comes to dissing stocks.

Sure, I tend to primarily bash stateside companies in this weekly column, but this doesn't mean that international stocks aren't fit for dumping. My virtual passport can go everywhere when a stock is overpriced.

I'm an optimistic pessimist, though. No matter how far I may have to travel to pan a stock, I come right back with three more that I think will be better portfolio replacements.

Who gets tossed out this week? Come on down, Baidu (Nasdaq: BIDU  ) .

Bye-bye, Baidu
Before I rip into China's leading search engine, I want to unleash a meaty disclaimer.

I singled out shares of Baidu to Rule Breakers newsletter service subscribers nearly four years ago. The stock has soared roughly 630% since my original $83.37 recommendation. I still believe in the company's long-term growth potential, and this column isn't going to bump it from the market-thumping service's scorecard.

However, I think the stock's recent gains as a result of Google (Nasdaq: GOOG  ) incredulously bowing out of China are overblown.

Baidu closed at $386.49 on Jan. 12, the day before Google shocked the world with its threat to leave the world's most populous nation. Baidu's stock deserved a bump in value, but it's now trading 58% higher two months later.

Is it justified? Baidu already commands nearly two-thirds of China's search engine market, with Google settling for most of what's left. Even if Baidu were to gobble up all of Big G's share -- and it won't -- it doesn't deserve that kind of speculative run up.

Will the absence of a strong competitor find advertisers paying more to reach targeted audiences through Baidu? Yes, but it also comes at the expense of the niche's development and global credibility.

There is also the matter of what becomes of Google's share if it is shut out completely. In bumping its Baidu price target higher earlier this week, Goldman Sachs feels that the Chinese leader will pick up between 33% and 75% of Google's scraps.

I don't know about that. There's a reason why Google.cn users chose a Western engine over their hometown fave. Google's exit is a bigger opportunity for Bing or perhaps even a repurposed Yahoo! (Nasdaq: YHOO  ) than it is for Baidu. There is also room for smaller homegrown engines such as Sogou to make a difference.

In other words, between the hit that China's online market will take -- in terms of both credibility and global advertiser support -- and the way that the Chinese search market will be carved out in the coming quarters, Baidu is still a great company but not 58% better than it was two months ago.

At an afternoon price of $610, Baidu is now priced at 64 times 2010's expected earnings and 44 times 2011's projected profitability. Baidu's heady growth is worthy of hefty market premium, but after recent gains it would be a surprise to see the stock ease up to give the fundamentals a chance to catch up.

Good news
As I do every week, I don't talk down a stock unless I have three alternatives that I believe will outperform the company getting tossed. Let's go over three new fill-ins.

  • Sohu.com (Nasdaq: SOHU  ) -- As the parent company of Sogou, Sohu has a shot to be more than just a fringe search engine with Google's geopolitical retreat. For now, Sohu is better known for its Web-based brand advertising success and its online gaming interests through Changyou (Nasdaq: CYOU  ) . Sohu isn't in the same speedster league as Baidu, but it's also trading for just 15 times this year's earnings and 12 times next year's bottom-line target.
  • Microsoft (Nasdaq: MSFT  ) -- I'm not typically a fan of Microsoft as an investment. I think it's all downhill for the company's software stronghold in terms of what folks will pay for operating systems, productivity suites, and enterprise solutions. However, I am a fan of Bing and what it represents for Microsoft finally turning a profit in its online services. It is also my odds-on favorite to slip into Google's discarded Chinese shoes.
  • China Real Estate Information (Nasdaq: CRIC  ) -- Instead of a global battle for search supremacy -- or dogging Baidu for continuing to lose money in Japan after it entered that market a couple of years ago -- let's dive into a Web-based company that turns its attention inward. True to its name, this company devotes itself to providing real estate information, consulting, and advertising services. It's a fast-growing market, as China's economy continue to crank out new homeowners. The growth is there, and China Real Estate is trading at 20 times this year's guesstimate and 15 times next year's earnings forecast. This is a sharp discount to the company's recent growth.

Sorry, Baidu. I still believe in you, but maybe stopping for a breather would be a good idea.

Microsoft is a Motley Fool Inside Value selection. Baidu, Google, and Sohu.com are Motley Fool Rule Breakers recommendations. Motley Fool Options has recommended a diagonal call position on Microsoft. Try any of our Foolish newsletter services free for 30 days.

Longtime Fool contributor Rick Munarriz always takes out the garbage. He does not own shares in any of the stocks in this column. Rick is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool has a disclosure policy.


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