Could Baidu Pull Another Upside Surprise This Quarter?

Mobile growth has been a boon for revenue, but it's dragging profits

Jul 23, 2014 at 2:00PM

Baidu (NASDAQ:BIDU) will report its second-quarter earnings on Thursday, and analysts are expecting strong revenue growth. Despite strong competition from Qihoo 360 (NYSE:QIHU), the company has been able to accelerate its revenue growth over the last few quarters.

At the beginning of the year, CEO Robin Li outlined five areas of opportunity for Baidu: search, mobile, cloud, location-based services, and international. The company is making progress in all five areas, particularly mobile, which has led to significant revenue growth. On the flip side, however, Baidu is spending heavily to attack these opportunities, leading to much less earnings growth.

Let's take a look at what investors can expect from Baidu on Thursday.

Stats on Baidu

Analysts' EPS Estimate


Year-Ago EPS


Revenue Estimate

$1.92 billion

Change From Year-Ago Revenue


Earnings Beats in Past 4 Quarters


Source: Yahoo! Finance and Baidu's Q2 2013 earnings report.

Could Baidu pull another upside surprise?
At the beginning of the year, CFO Jennifer Li warned investors that she doesn't expect Baidu to grow profits in 2014. Yet, first-quarter earnings came in with a 24% increase in earnings, beating estimates by nearly 20%.

Still, analysts haven't become overly optimistic on the potential for Baidu to repeat the first quarter's performance. Indeed, Jennifer Li mentioned the previous guidance still stands as Baidu aims to push its sales and marketing efforts in the second half of the year. She added that the margin in the first quarter was due in part to seasonality. As such, earnings estimates for the quarter have climbed just $0.02 per share since the first-quarter earnings release.

Even as profits remain flat, the stock price is going up. Since Baidu last reported earnings, its share price is up over 22%. The S&P 500 is up 4.7% in the same period. Shares reached a new all-time high this week.

Growing mobile search
Mobile search has been an area of focus for Baidu for some time now. It's a highly lucrative area, as more Chinese web users are using mobile devices as their primary source of Internet access.

Management expects its mobile search traffic to surpass its PC traffic at some point this year. Nonetheless, it faces tough competition in the environment.

Qihoo 360 has a presence on 538 million mobile devices as of the end of the first quarter. Its mobile security software is ubiquitous in the Chinese mobile market. The company launched its long-awaited mobile search app last month.

In nearly two years, Qihoo has expanded its share of the Chinese Internet search market from 0% to 25%. Management's goal is to reach 30% by the end of the year, which means taking share from Baidu.

The market is growing on an absolute basis, however, which means both Qihoo and Baidu can grow their search businesses. Baidu's mobile attack continues to grow with its well-established search app as well as organic and acquired traffic from mobile web users. Overall, Baidu added 30 million mobile users in the six months from October through March.

Increasing revenue
Baidu is leveraging that strength in search to draw users deeper into its ecosystem and introduce new products. Last year, the company rolled out Light Apps -- HTML 5 mobile web apps -- that can launch within Baidu's search app. This allows the company to make money on apps that users don't want to download from its app store (or Qihoo 360's for that matter).

Light Apps also allow Baidu to feature its own new products within its most popular product. For example, Baidu is able to integrate the functionality of Baidu Wallet into its search app, easing users into its mobile payments platform. This allows users to more easily transact on the company's location-based services. From there, Baidu Wallet users will be encouraged to sign up for Bai Fa, its wealth management platform.

Meanwhile, Baidu is spending heavily to narrow the price gap between mobile and PC advertisements on its search engine. Given that mobile search traffic is set to overtake PC traffic, this is of the utmost importance for Baidu to maximize its revenue.

What to watch for
When Baidu reports its second-quarter earnings, investors should watch for healthy double-digit sequential growth in mobile search users. This will be key to Baidu's strategy going forward of funnelling users into its mobile ecosystem.

While revenue should advance heartily, watch to see how Baidu manages its costs. Profit margin is sure to decline year over year, just as it did in the first quarter, but a smaller decline would indicate leverage in Baidu's operational spending.

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Adam Levy has no position in any stocks mentioned. The Motley Fool recommends Baidu. The Motley Fool 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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