When Chinese tech giant Baidu (BIDU 1.02%) spun off its video streaming subsidiary iQiyi (IQ 6.26%) in a March 2018 IPO, many pundits dubbed it the "Netflix (NFLX 4.17%) of China."
But after two and a half years, iQiyi's stock is only trading about 20% above its IPO price, while Netflix's stock has risen by about 35% during the same period. Let's consider why iQiyi might be underperforming Netflix, and whether it could catch up in the future.
Image source: Getty Images.
Not quite the "Netflix of China"
Despite their superficial similarities, iQiyi and Netflix operate using different business models.
iQiyi is a "freemium" platform: Users can watch a limited library of ad-supported content for free, while those who pay for subscriptions gain access to ad-free streams and additional content. Netflix only offers paid subscriptions, and has repeatedly dismissed rumors that it was considering free or ad-supported tiers.
iQiyi's dependence on ad revenues, which accounted for 22% of its top line last quarter, leaves it more exposed to macro headwinds than Netflix is. Membership fees provided 54% of iQiyi's revenue during the quarter; the rest mainly came from distribution deals under which it licenses its content to other media platforms. Netflix's model is much simpler: All of its revenue comes from subscriptions.
Netflix is still growing faster
Revenue for the Chinese video-streamer rose by 52% in 2018, but only by 16% in 2019, and it was only up 7% year over year in the first half of 2020. That most recent portion of that slowdown can be attributed to the COVID-19 crisis, which throttled its ad sales, as well as competition from rival platforms like Tencent Video and Alibaba's Youku Tudou.
Image source: Getty Images.
iQiyi's total number of subscribers grew 4% year over year to 104.9 million in the second quarter, but declined 2% from the first quarter. Management attributed that drop to a weaker lineup of original dramas and a tough sequential comparison following a pandemic-induced spike in memberships during Q1, but the platform could also be running out of room to grow.
Netflix's revenue rose by 35% in 2018, increased by 31% in 2019, and climbed another 26% year over year in the first half of 2020. Its total number of paid subscribers worldwide also grew 23% year over year to 192.95 million -- allaying concerns that new challengers like Disney+ would derail its growth.
iQiyi forecasts its revenue in the third quarter will be in the range of flat to down 6% because its ad business remains under pressure. However, Netflix expects its revenue to rise by 21% year over year in Q3.
Netflix is more profitable than iQiyi
Both of these companies spend a lot of money on licensing media content, creating original shows and movies, and delivering it all to their growing audiences.
iQiyi hasn't figured out how to balance its rising expenses with revenues yet, and it remains deeply unprofitable. Its net losses widened in 2018, 2019, and the first half of 2020 -- and analysts don't expect it to generate a profit in the foreseeable future.
Meanwhile, Netflix's scale, its dependence on higher-margin membership revenues, and its vast and growing library of original content (which reduces its overall payments to third-party media companies) are enabling it to generate stable profits. Its net income surged 117% in 2018, grew 54% in 2019, and increased another 133% in the first half of 2020.
The forecasts and valuations
Wall Street expects iQiyi's revenue to rise by 7% in 2020 and 14% in 2021, and forecasts that its net losses will narrow slightly during both years. The stock trades at three times next year's forecast sales, which isn't expensive, but the share price is also being weighed down by allegations of fraud and the recent disclosure that an SEC investigation of the company is underway.
Analysts expect Netflix's revenue and earnings to rise by 23% and 50%, respectively, this year. They anticipate that momentum will persist in 2021, when they predict 17% revenue growth and 42% earnings growth. Meanwhile, the stock still looks reasonably valued at 55 times forward earnings.
The obvious winner: Netflix
Netflix is a better buy than iQiyi for obvious reasons: It's generating stronger growth in revenue, earnings, and subscribers; it isn't exposed to the volatile advertising market; it's firmly profitable, and it doesn't face an SEC probe. It also isn't exposed to the risk of a bill under consideration in Washington that, if passed by the House, could force U.S.-listed Chinese companies to delist their shares if they don't comply with its new regulations. In light of all that, investors should avoid the "Netflix of China" and simply stick with the American original.
