Baidu (BIDU +0.19%) posted its second-quarter earnings report on Aug. 22. The Chinese tech giant's revenue stayed nearly flat at 33.93 billion yuan ($4.67 billion) and missed analysts' expectations by $70 million. Its adjusted earnings per American depositary share (ADS) dropped 7% to $2.89 but still exceeded the consensus forecast by $0.29.
Baidu's stock price slipped after that mixed report, and it's down nearly 30% for the year. Some investors might consider it to be a deep value play at just 9 times forward earnings, but I wouldn't buy it for four simple reasons.
Image source: Getty Images.
1. Baidu's core business is withering
Baidu owns China's largest online search engine, other portal websites, and controlling interest in the streaming video platform iQiyi (IQ 4.32%). It generated 60% of its revenue from its online marketing services in the first half of 2024. That core business has faced tough macro, competitive, and regulatory challenges over the past few years.
|
Metric |
2021 |
2022 |
2023 |
Q1 2024 |
Q2 2024 |
|---|---|---|---|---|---|
|
Online marketing services revenue growth (YOY) |
12% |
(6%) |
8% |
3% |
(2%) |
Data source: Baidu. RMB terms. YOY = Year over year.
On the macro front, the soft Chinese economy curbed the market's appetite for new ads. As for the competition, many advertisers pivoted away from Baidu and bought more ads on higher-growth platforms like ByteDance's Douyin (known as TikTok overseas) and Tencent's (TCEHY +0.21%) Weixin (also known as WeChat). New generative AI tools are gradually chipping away at Baidu's core search engine, and more businesses are also directly buying sponsored listings and ads on Alibaba's (BABA +0.25%) e-commerce platforms and other marketplaces instead of Baidu's search and display ads.
As Baidu juggled those challenges, China's regulators cracked down on several of its highest-growth industries -- including video games, streaming videos, e-commerce, and online education. That crackdown throttled those sectors' ad purchases.
Baidu tried to counter those headwinds by expanding its "managed business pages" -- which allow the company to handle a brand's entire presence across its entire ecosystem -- and that shift seemingly stabilized its online marketing business in 2023. Unfortunately, that momentum fizzled out in the first half of 2024. It's now trying to reboot the business with new generative artificial intelligence (AI) search tools, but it admits those features could cannibalize its traditional search and display ads.
2. Baidu's cloud and AI growth is slowing down
As Baidu's online marketing sales growth decelerated, it expanded its cloud and AI division to offset that slowdown. That expansion turned its non-online marketing services unit into its new growth engine, but it also cooled off in 2023 and 2024.
|
Metric |
2021 |
2022 |
2023 |
Q1 2024 |
Q2 2024 |
|---|---|---|---|---|---|
|
Non-online marketing services revenue growth (YOY) |
71% |
22% |
9% |
6% |
10% |
Data source: Baidu. RMB terms.
That segment, which accounted for 22% of its revenue in the first half of 2024, also faces intense macro and competitive challenges. The macro headwinds drove many companies to rein in their cloud spending over the past two years, and Baidu's underdog AI cloud platform struggled to keep pace with larger cloud competitors like Alibaba, Huawei, and Tencent. Those three market leaders controlled 74% of China's cloud infrastructure market at the end of 2023, according to Canalys.
Baidu expects the growth of the AI market to generate long-term tailwinds for its cloud business, but that acceleration probably can't offset the sluggishness of its marketing business. It could also struggle to expand its cloud and AI businesses as the U.S. tightens its export curbs on advanced AI chips to Chinese companies.
3. Baidu is focusing too much on its margins and buybacks
As Baidu's revenue growth slowed down, it aggressively cut costs to stabilize its margins. From 2021 to 2023, its adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) margin expanded from 20% to 26%. That figure held steady at 26% in the first quarter of 2024 and rose to 27% in the second quarter.
Baidu has also been plowing a lot of its cash into buybacks. It's already repurchased $1.2 billion in shares from its $5 billion buyback plan, which it launched last February.
The bulls might see those strategies as disciplined moves aimed at stabilizing its earnings growth, but they also strongly indicate its business is maturing. Those conservative strategies could also hobble Baidu's ability to keep pace with its nimbler competitors in the advertising, cloud, and AI markets.
4. It deserves its discount valuation
Analysts expect Baidu's revenue to rise just 1% this year as its adjusted earnings dip 3%. It will also remain out of favor for a long time as the tech war between the U.S. and China drags on and drives many investors away from Chinese equities. Even if you want to take a chance on Chinese stocks, there are better long-term plays than Baidu. Alibaba and Tencent are better diversified and generating more stable growth, but they trade at just 10 and 15 times forward earnings, respectively. Baidu's stock looks cheap, but it deserves its discount valuation and I wouldn't touch it until a few more green shoots appear.
