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Better Buy: Baidu vs. Tencent

By Leo Sun - Apr 16, 2020 at 12:30PM

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Which Chinese tech giant is a better long-term play?

Baidu (BIDU 1.86%) and Tencent (TCEHY -0.24%) are two of the biggest tech companies in China. Baidu owns the country's largest search engine, and Tencent owns WeChat, its top messaging platform. Tencent is also the world's largest video game publisher, and China's second-largest cloud company after Alibaba (BABA 2.04%).

Over the past three years, Baidu's stock tumbled about 40% as Tencent's rallied more than 70%. Baidu struggled with sluggish ad sales and tougher competition, while Tencent's core gaming, social, fintech, and cloud businesses continued growing. But will Tencent continue to outperform Baidu over the next few years?

A digital illustration of the world superimposed on a profile shot of woman's face.

Image source: Getty Images.

The differences between Baidu and Tencent

Baidu generated 72% of its revenue from online ads last quarter. Another 26% came from iQiyi (IQ 4.05%), the video streaming unit it spun off in an IPO in 2018, and the remaining sliver came from other businesses like cloud services and smart speakers.

Baidu controls 73% of China's online search market, according to StatCounter. Its closest direct competitor is Tencent-backed Sogou, which holds a 15% share. It also faces indirect competition from internal search engines within WeChat, ByteDance's Toutiao, and other apps. iQiyi primarily competes against Tencent Video.

Tencent generated 29% of its revenue from its online gaming business last quarter. Another 28% came from its fintech and business services unit, which houses WeChat Pay, one of the largest digital payment platforms in China, and Tencent Cloud. Its online ads -- which are displayed across WeChat, Tencent Video, its mobile ad network, and other platforms -- generated 19% of its revenue. The rest of its revenue came from other products, services, and investments.

The beating heart of Tencent's business is WeChat, which served 1.16 billion monthly active users last quarter. In addition to delivering messages, WeChat hosts over two million "Mini Programs", which enable users to pay bills, place orders, hail rides, play games, and more without leaving the app. Most of Tencent's other apps are also tethered to WeChat.

Which company is growing faster?

Baidu posted stronger revenue growth than Tencent in 2015, but it grew at a slower pace over the following four years.

Revenue Growth (YOY)

2015

2016

2017

2018

2019

Baidu

35%

6%

20%

28%

5%

Tencent

30%

48%

56%

32%

21%

YOY= Year-over-year. Source: Company annual reports.

Baidu's growth decelerated significantly in 2016 after Chinese regulators forced it to suspend its healthcare-related ads. The suspension was sparked by the death of a cancer patient who bought unapproved drugs through Baidu's ads.

A search box superimposed on a photo of a laptop.

Image source: Getty Images.

Baidu subsequently slimmed down its business by divesting non-core businesses in the fintech, food delivery, and online travel sectors, but its core advertising business is still struggling to deal with China's economic slowdown and competition from rival platforms.

Tencent was also hit by regulators in 2018, when the government suspended new video game approvals for nine months over concerns about gaming addiction. Yet the growth of Tencent's other businesses -- especially its fintech and cloud services -- partly offset that slowdown.

Tencent's ad business remains under pressure, but it's still generating double-digit growth as Baidu's ad growth declines. Furthermore, Tencent's gaming business is recovering, its fintech and cloud businesses are gaining ground against Alibaba (BABA 2.04%), and it boasts a deeper bench of high-growth investments than Baidu.

The combination of Tencent's high-margin gaming, advertising, and investment businesses enabled it to consistently post higher operating margins than Baidu over the past five years. Baidu increasingly relied on iQiyi's revenue for growth as its ad revenue dried up, but the unprofitable video platform is crushing its margins.

Operating Margin

2015

2016

2017

2018

2019

Baidu

18%

14%

19%

15%

6%

Tencent

39%

37%

38%

31%

31%

Source: Company annual reports.

The obvious winner: Tencent

Baidu and Tencent are still both solid long-term investments on China's growth, and their ad revenue should recover as the country's businesses come back online. Tencent clearly has more irons in the fire than Baidu, which is still trying to catch up to WeChat by integrating Mini Programs into its own mobile app.

Baidu isn't down for the count yet, but its stock will likely trail Tencent's until its higher-margin ad revenue rises again and offsets its unhealthy addiction to iQiyi's revenue.

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Stocks Mentioned

Baidu, Inc. Stock Quote
Baidu, Inc.
BIDU
$151.49 (1.86%) $2.76
Tencent Holdings Limited Stock Quote
Tencent Holdings Limited
TCEHY
$45.28 (-0.24%) $0.11
Alibaba Group Holding Limited Stock Quote
Alibaba Group Holding Limited
BABA
$116.00 (2.04%) $2.32
iQIYI, Inc. Stock Quote
iQIYI, Inc.
IQ
$4.37 (4.05%) $0.17

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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