Should You Buy Cheetah Mobile, or Stick With Market-Leading Competitor Qihoo 360?

Cheetah Mobile (NYSE: CMCM  ) , the latest Chinese company to become public, is a direct competitor of Qihoo 360 (NYSE: QIHU  ) in the security application and browser space. Surprisingly, the stock barely finished with gains on its IPO, so is it a better investment opportunity than Qihoo, or does the latter's success in search against Baidu (NASDAQ: BIDU  ) make it the investment of choice in this space?

It's no surprise
Due to Qihoo's two-year 260% stock gains, it's no shock that Cheetah Mobile saw it as a lucrative opportunity to enter U.S. markets. In retrospect, web security has become a hot business, and Cheetah is Qihoo's most significant competition, with the company reporting 222.5 million monthly active mobile users as of February.

In comparison, Qihoo had 467 million mobile users at the end of its last quarter, good for a 126% increase over last year. With that said, mobile is a fast-growing industry in China, as are security applications, meaning there could be a large market in front of these two companies. But, does this mean that Cheetah will enjoy Qihoo's success?

Is Cheetah the next Qihoo
In determining if Cheetah is a good investment opportunity, you must look to the fundamentals. Examining 2013, Cheetah had annual revenue of $123.9 million with year-over-year growth of 160.5%, along with net income of $10.2 million. It's worth noting that Cheetah's year-over-year growth has decelerated a bit, 130% in the first quarter of 2014, but is still impressive nonetheless.

In contrast, Qihoo grew revenue 104% last year to $671.1 million and saw its bottom line improve 113.2% to $99.7 million. So, let's look at both stock's multiples compared to fundamentals over the last 12 months.

 

Qihoo

Cheetah

P/E Ratio

99

196

Price/Sales Ratio

14.2

16.1

As you can see, both companies are valued similarly. Sure, Cheetah's P/E ratio is much higher, but as the company grows, it should be able to sport margins similar to Qihoo. Therefore, with greater growth and increasing market share, Cheetah looks like a good opportunity at 16.1 times sales, especially given its 100%-plus growth rate.

Qihoo's not a bad stock, either
Given some of the multiples for Chinese stocks, and also U.S. Internet companies, 16.1 times sales with this kind of growth and profits is not bad for Cheetah. With that said, Cheetah is limited to the security business alone, and much of its future rests on the ability to either expand into new territories or steal market share from Qihoo, which is easier said than done.

In regard to Qihoo, it has the same risks as Cheetah. However, Qihoo also has an explosive Internet search business that could make it the next Baidu. Specifically, Baidu has been the Chinese search king for many years, but in recent quarters has seen its market share quickly decline due to an increased presence from Qihoo.

At one time, Baidu owned 75% of the search market, but currently, that share sits at just 60%. Meanwhile, Qihoo's share has increased from 12% to 25% over the last year. Yet, while Baidu earned nearly $5.7 billion in annual revenue with its market share, including operating margins of 32%, Qihoo has yet to report fundamental data from its share, citing the impact of search being insignificant at this time.

For investors, this means that Qihoo has an enormous existing business that has yet to be monetized, one that's nearly half the size of the fast-growing $5.7-billion-per-year Baidu. Essentially, this fact provides a hedge against the security business, implying that even if Qihoo loses its grasp on the space, or if Cheetah gains some market share, the company has an even larger market with search to drive share prices higher.

Where's the best investment?
Clearly, Baidu has the most to lose, and based on current fundamentals, Cheetah looks attractive. However, given Qihoo's market share of both search and security, combined with it being in the early stages of monetization, investors should like the company's chances of seeing long-term accelerated growth.

Therefore, Qihoo becomes not only the best long-term investment of these three companies, but with it trading nearly 40% off its 52-week highs, it's also one of the best Chinese investments in the market.

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