Here's Why Qihoo 360 Will Bounce Back

Qihoo 360 slumps ahead of its earnings report.

May 12, 2014 at 10:05AM

Last week wasn't a good one for Qihoo 360 (NYSE:QIHU) shareholders. Shares of the company behind China's leading Internet browser and security software suite tumbled 12% ahead of its upcoming quarterly report. 

There wasn't any Qihoo 360-specific news dragging the stock lower. The stock merely dropped in each of the week's first four trading days before inching slightly higher on Friday. Despite the attention that the world's most populous nation generated in a week that found Alibaba filing to go public, investors generally rotated out of Chinese growth stocks. However, Baidu (NASDAQ:BIDU) -- China's largest search engine -- tumbled just 4% on the week. Baidu and Qihoo 360 became fierce foes after the latter launched its own search engine two summers ago.

Qihoo 360's slide comes at an intriguing time. It will be reporting quarterly results later this month, and it should be another strong report. Analysts see revenue soaring 108% to $228.8 million, and profitability will likely be growing even faster. Wall Street's holding out for a profit of $0.34 a share, well above the $0.14 a share it rang up a year earlier.   

These may seem like aggressive targets, but, if anything, analysts have been too conservative in assessing Qihoo 360's fiscal performances. Let's go over the past four quarters to see how Wall Street's aiming too low.

Quarter

EPS Estimate

EPS

Surprise

Q1 2013

$0.14

$0.14

0%

Q2 2013

$0.26

$0.40

54%

Q3 2013

$0.37

$0.47

27%

Q4 2013

$0.43

$0.70

63%

Source: Thomson Reuters.

Qihoo 360 has blown through profit expectations in the past three quarters. Why should this month's report be any different?

Qihoo 360 is in a pretty sweet place at the moment. It's gaining market share in search, and its monetization efforts should improve over time. Baidu and soon Alibaba will turn heads with their spectacular growth, but Qihoo 360's top line is growing even faster.

That may not always be that way. We're likely to see growth decelerate at this point, particularly on the bottom line as Qihoo 360 invests in its nascent businesses the way Baidu and other Chinese dot-com darlings have been doing recently. Analysts see revenue topping $1 billion this year, but they also see growth slowing to 72% for all of 2014. The pros also see margins contracting this year, with profitability forecasted to climb just 43% per ADS before accelerating to 56% growth in 2015.

Shares of Qihoo 360 have plunged 38% since peaking two months ago, and this should be a dinner bell for opportunistic growth investors. The stock is now trading at 31 times this year's projected earnings and just 20 times next year's target. We know that Qihoo 360 is growing a lot faster than that, and that's with analysts lowballing the fast-growing Internet company's estimates lately. This is all setting the stage for a healthy pop if Qihoo 360 does come through with a strong report in a few days. There are clearly risks with buying into China's Internet stocks, but the potential rewards are too tempting to pass up now.

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Rick Munarriz has no position in any stocks mentioned. The Motley Fool recommends and owns shares of Baidu. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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