Better Streaming Stock: Netflix vs. iQiyi

iQiyi (IQ) was dubbed the "Netflix (NFLX 1.74%) of China" when it went public in March 2018. But today, the Chinese streaming video giant's stock trades nearly 75% below its IPO price of $18 per share.

At the time, investors should have simply invested in Netflix, which has rallied more than 80% since iQiyi's public debut. But will Netflix continue to outperform iQiyi this year, or will iQiyi rebound with bigger gains?

Image source: Getty Images.

The differences between iQiyi and Netflix

iQiyi is often compared to Netflix, but the two companies operate very different business models.

iQiyi is a freemium platform that streams a limited library of ad-supported content for users. Its paid subscribers gain access to a wider range of ad-free shows and movies. Netflix only provides paid subscriptions, and it's repeatedly rejected calls to launch a free ad-supported tier.

Nearly all of iQiyi's 103.6 million subscribers are located in the Greater China region. Netflix's 213.6 million subscribers are scattered across 190 countries, and it produces local shows and movies in 45 countries.

iQiyi is still owned and controlled by Baidu (BIDU 0.72%), the Chinese tech giant which owns the country's largest search engine. Netflix isn't subservient to any larger tech companies.

Why did iQiyi crash as Netflix rallied?

A comparison between Netflix and iQiyi's subscriber growth over the past four years reveals why the latter's stock crashed.

Data source: Netflix and iQiyi. YOY = Year over year.

Netflix, like many other streaming video platforms, experienced accelerating growth in 2020 as the pandemic forced more people to stay at home. However, iQiyi's growth stalled out as it faced intense competition from Tencent (TCEHY -0.94%) Video, Alibaba's (BABA 0.64%) Youku Tudou, Bilibili, and short video apps like ByteDance's Douyin (also known as TikTok overseas).

The pandemic's impact on advertisements, which generated over a fifth of iQiyi's revenue last quarter, exacerbated the pain. That wasn't an issue for Netflix since it generates nearly all of its revenue from subscription fees.

Analysts also expect Netflix to continue growing at a much faster rate than iQiyi over the next two years.

Data source: S&P Global Market Intelligence, Jan. 11.

Netflix was profitable over the past four years, but iQiyi wasn't. Analysts expect iQiyi to remain unprofitable for the foreseeable future as it relies heavily on free trials and steep discounts to gain new subscribers.

To make matters worse, China cracked down on its top tech companies as U.S. regulators threatened to delist Chinese firms that didn't comply with new auditing standards. That pressure crushed Chinese stocks across the board and caused even nastier declines for struggling companies like iQiyi.

Could iQiyi be a deep-value play?

Based on those comparisons, Netflix clearly seems like a better long-term investment than iQiyi. However, iQiyi's stock trades at just 0.7 times next year's sales, while Netflix trades at seven times next year's sales.

That massive valuation gap suggests iQiyi could still rebound this year and outperform Netflix if any positive developments occur.

One catalyst would be positive subscriber growth. Just a few quarters of low-single-digit year-over-year growth might convince the market that iQiyi's darkest days are finally over -- and that it could meet analysts' expectations for accelerating revenue growth in 2022 and 2023.

Another catalyst would be waning regulatory headwinds in China and the U.S., as well as more clarity regarding the future of Chinese-listed ADRs. If that happens, the battered Chinese tech sector could rebound, and that rising tide could even lift capsized boats like iQiyi.

Lastly, Baidu might still sell its stake in iQiyi to Tencent and Alibaba. Baidu was reportedly mulling that divestment in mid-2020, but the talks were shelved after China's antitrust regulators started probing Alibaba and its tech peers. If those talks resume, iQiyi's stock could blast off from its all-time lows.

The verdict: Netflix is still the better buy

iQiyi might seem undervalued, but it's also not the type of stock you want to hold as interest rates rise. Its growth is sluggish, it's deeply unprofitable, and it's saddled with a staggering debt-to-equity ratio of 6.3. Netflix ended last quarter with a much more manageable debt-to-equity ratio of 0.5.

iQiyi's stock might rebound this year if any of the aforementioned catalysts occur, but I doubt those gains will be sustainable. Meanwhile, Netflix remains a solid investment and will likely continue to thrive in 2022 and beyond -- which makes it the much better streaming stock for long-term investors.