The Rise and Stall of Renren

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Two words were enough to set the Renren (Nasdaq: RENN  ) hype machine in motion: China's Facebook.

A lack of profitability, its gargantuan proposed market cap, and the dicey nature of a social platform in China didn't get in the way of a smoking hot IPO. The American depository shares, which were originally pegged to be priced between $9 and $11 apiece, were eventually sold at $14.

It wasn't enough. Renren began its publicly traded life on Wednesday at $19.50, hitting an intraday high of $24.

It didn't last. The stock closed at $18.01 on Wednesday, meandering its way down to $16.80 by the end of the week.

The offering is a success on paper. The stateside shares are trading comfortably above the $14 price point that underwriters got their best accounts in on last week. However, Renren's pop falls well short of December debutantes (Nasdaq: YOKU  ) and E-Commerce China Dangdang (Nasdaq: DANG  ) .

The stock's shaky start and lofty valuation are blurring the stratosphere. The unresolved market leadership in social networking in China also leaves Renren susceptible.

Stumbling at the starting gate
Renren runs China's leading real name social networking website, generating revenue from online advertising and from social gaming's virtual goods. It's growing at its revenue at a healthy clip, up 64% to $76.5 million last year. The bottom line is another story, but investors have been known to forgive near-term deficits if a story stock has potential.

Renren has that in droves. China is the world's most populous nation, and its online base of users recently surpassed the United States for the dot-com pole position. The economy's been growing at a roughly 10% rate over the past few years, hinting at growth that should be exponentially greater than similar situations in other countries.

The wild success of video-sharing website leader Youku and Web-based bookseller Dangdang six months ago opened the door for Renren. Neither company was a bottom-line darling. Youku is still losing gobs of money. Dangdang's net margins in the 1% to 2% range aren't that impressive. However, both companies were able to go public without any material setbacks. Renren wasn't as lucky.

Just days before the IPO, the head of Renren's audit committee had to step down over accusations of accounting irregularities at his own company. Ouch! Back in April, Renren had to revise its usage base growth claims lower after being called out on the matter.

There's also the company's odd corporate structure. Renren's a Cayman Islands-based holding company with only contractual rights to the economic benefits of the social network. A husband-and-wife team hold the majority stakes here.

Credibility killers like these would have sunk a weaker IPO, but not Renren. This is China's Facebook, right?

What's a Renren worth?
More than 117 million people have activated accounts. That's a cumulative number. The more reliable metric would be the 31 million unique monthly logins the company scored for the month of March.

Renren is obviously no Facebook and its global base of 600 million users. It doesn't have to be. If the valuation is fair, I'd be swan-diving into the stock. I'm not.

There are roughly 1.2 billion ordinary shares outstanding after the IPO and its successful over-allotment. Every ADS represents three ordinary shares, so we're talking about a company worth nearly $7 billion based on Friday's close. Renren would've turned a small profit last year if it wasn't for adjusting the value of its outstanding warrants, but we're still talking about a multiple of nearly 1,000 times last year's operating profit.

Bulls will point to Chinese dot-com darlings Baidu (Nasdaq: BIDU  ) , SINA (Nasdaq: SINA  ) , and (Nasdaq: SOHU  ) also fetching ridiculous multiples at first, but we're talking about entirely different starting lines. Baidu, SINA, and Sohu went public with eight- and nine-figure market caps. Renren's a debutante in the billions.

Facebook will go public valued in the tens of billions, but it will likely have earned it. It's still too close to call in China. Less than a tenth of China's Internet population logged into Renren during the March. There's still no clear dominant player.

SINA's Weibo -- a micro-blog blend of Facebook and Twitter -- is a rock star. Tencent's recent launch of QQ Login is a bold attempt for the leader in IM connectivity to take the next social step. Rumors have also been circulating for weeks that Facebook will team up with Baidu to see if China's Facebook may actually be a byproduct of Facebook itself.

We're desperate for social networking fireworks. Until Facebook goes public, investors will hope that Renren, Latino-targeting Quepasa (AMEX: QPSA  ) , and the upcoming LinkedIn IPO will be Web 2.0 coattail rides. They'll forgive Renren's stiff valuation, Quepasa's paltry revenue, and LinkedIn's lousy engagement as long as they continue to grow in popularity.

Renren is an intriguing company, but it may take years before it justifies its current market cap. Sohu's profit of $139.3 million last year is nearly twice Renren's revenue -- yet Sohu commands a little more than half of Renren's current market cap.

Renren's like a snazzy suit that's several sizes too large. It looks good, but it's going to take a lot of growing before it truly fits.

Are you buying into Renren? Share your thoughts in the comment box below.

Baidu and are Motley Fool Rule Breakers recommendations. Sina is a Motley Fool Stock Advisor choice. 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.

Longtime Fool contributor Rick Munarriz has only been to China once, but he relishes admiring its dot-com revolution from afar. He does not own shares in any of the stocks in this article. He 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.

Read/Post Comments (7) | Recommend This Article (6)

Comments from our Foolish Readers

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  • Report this Comment On May 09, 2011, at 8:04 PM, scott1020 wrote:

    I'm curious as to how you have determined Renren's market cap being $7 billion. I've seen it published as just over $1 billion. I haven't seen the number of ADS outstanding exceeding 100 million. Simple math puts the highest Renren could be as of closing trade today at just under $1.6 billion.

  • Report this Comment On May 09, 2011, at 8:21 PM, julianna8 wrote:

    it's market cap on E-trade is $6.3 Billion at today's close. Everyone is trashing the company right now, even Cramer...who hasn't done well predicting Chinese stocks lately. I see this stock at $25 by July easily.

  • Report this Comment On May 09, 2011, at 8:28 PM, mlinni wrote:

    I think a lot of investors are not doing fundamental research to realize that Ren Ren is *not* the "FaceBook" of China. Just because you have social network site, doesn't mean it is FaceBook-like. They just spun it FaceBook of China to easily explain a social networking site. Its no better than Friendster. 1. It’s not Facebook. Looking just at U.S. numbers, more than half of America’s 230 plus million Internet users are on Facebook. China has more than 400 million Internet users, but Renren only has only 20 to 30 million active monthly users and perhaps around 100 million registered users in total.

    That’s a long way behind Facebook. There is no ubiquitous Facebook “Like” button on the Chinese Internet, and I have never heard of a young Renren user being horrified because their mom just signed up for the service.

    Renren has simply not grown to occupy the place in Chinese life that Facebook has assumed in the U.S. and elsewhere.

    Also worth scrutinizing all of the numbers very carefully. See for example: Renren Changes Key User Figure Before IPO, and the diplomatically titled Is Renren Seeing Explosive Active User Growth?

    2. Brutal competitive landscape

    In terms of the product, Renren’s closest competitor is Kaixin001, another Chinese Facebook clone that may seek an IPO this year. Kaixin is most famous in China for launching a Farmville type game long before Farmville was popular in the U.S.

    But Renren is also up against dozens of other websites, including the following major players all of whom have very deep pockets:

    * Tencent, the behemoth of the Chinese Internet that provides one service or another to perhaps 80% of Chinese Internet users and which operates the social networks Pengyou and QZone.

    * Sina‘s Weibo, China’s most popular Twitter type service that also intergrates many SNS features and which is assumed by many industry insiders to be taking users from Renren and Kaixin001.

    * Baidu, China’s search giant that has a number of social offerings and is widely rumored to be lining up a partneship with Facebook for the China market.

    3. Revenues just aren’t that good

    The potential is there, but right now Renren is not making that much money. Two links: RenRen IPO Shows You Don’t Need Revenue Growth To Be Worth $5 Billion and Renren Q1 2011 Loss Reaches USD 2.6 Mln

    Finally, a story breaking today on Reuters: Renren’s audit committee chair quits ahead of IPO.

  • Report this Comment On May 09, 2011, at 11:30 PM, TMFBreakerRick wrote:

    Scott, it's at the very beginning of the prospectus. It's nearly 1.2 billion ordinary shares outstanding -- and each ADS is equivalent to 3 ordinary shares.

  • Report this Comment On May 10, 2011, at 10:56 AM, skm1965 wrote:

    It seems that Chinese are going thru a bubble.We have heard of Real Estate bubble in China-now Copy Kats-copying Facebook,Google,YouTube etc.

    P/E ratios or some other metrics are "Bubble"--with little follow through.

    Since David Gardner recommended SINA--the stock is down sharply in less than 4 weeks.

    David's recommendations for US stocks have done great--but Chinese Stocks--I wonder?

    Look at Yoku,RenRen,Sina--all down.Is it reality sinking in???

  • Report this Comment On May 10, 2011, at 4:59 PM, Chinaexpert7 wrote:

    While right now the primary base of users of RenRen are still university age students, the % of users that are working professionals as well as below 18 years old have increased significantly recently. This is partially due to the strong brand grown since the inception of Renren (or Xiaonei, the predecessor name) among the university students many of whom graduated and entered in the workplace and remain loyal in using the social network. With the explosive penetration of internet usage and increased consumption in mobile devices and computers in China, the upward trend of growing users for RenRen is forecasted to continue and accelerate. Although WeiBo from Sina may boast more new users added per month, the two sites are not comparable nor do they compete directly as WeiBo concentrates on celebrity fanfare whereas Renren focuses on real relationships on the net.

    The revenues of Renren jumped 70% from 2009 to 2010 to $76million. With the new financing from IPO, the management is planning to expand the advertising client base to cover more small and mid-sized companies which could multiple revenues exponentially. The company reported net losses for 2010 with warrant compensation expense which was completed on a one-time basis; however removing this non recurring item, the business actually profited $7.6million running a much better performance than Youku for the same period in terms of operation income as well as total revenues earned for the year. With modest assumption of growth rates and profit margin, Renren has an intrinsic value of at least $3.1 billion. Currently the stock is trading at $1.46 billion significantly discounted and leaves much room for rebound. Whereas Youku, a company in my humble opinion has way more competitors and less market share and sources of revenue generation is currently trading at $5.8billion market capitalization.

  • Report this Comment On May 22, 2011, at 1:42 PM, maunder8 wrote:

    I have done the due diligence on the ground in China. Renren is an addiction to Chinese college students. They are obsessed with this social network and easily equal the participation enjoyed by Facebook in the USA. Renren has also recently partnered up with the developers of Plants vs. Zombies to produce an exclusive social game for Renren based on this popular title. Renren has a dedicated technical staff that will easily fend of competitors offerings. Renren has control of the college and young professional demographics and they spend gobs of money. This is the reality on the ground in China, not just some cursory look over of what some accountant says. Renren is strongly positioned for long term and explosive growth.

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