With Google's (GOOG 0.39%) earnings report last week propelling shares over the $1,000 mark, things seem to be firing on all cylinders for the search giant. Earnings grew by 36% in the third quarter, with the $10.74 per share handily beating consensus estimates. But has the Google ship already sailed? That is, is all of the potential growth over the next few years already baked into the share price? At 29 times trailing 12-month earnings, revenue growth in the mid-to-upper double digits seems to be priced in, so let's take a look at some other options.
Fortunately, for those brave enough to look overseas, there is the potential to simulate an investment in Google in its younger days. Two Chinese companies, Baidu (BIDU +2.25%) and Sohu.com (SOHU +0.27%) are both excellent plays on the rising Internet traffic in China, and a particularly good play on the rise in disposable income of the Chinese consumer.
Sohu.com: online gaming
Sohu.com is a search, media, gaming, and service group, with its recent focus on multi-player online gaming in China. For an American equivalent, think of Zynga with better monetization of advertising and less reliance on third parties like Facebook. Sohu has a very strong online advertising business, which includes brand advertising and a search advertising division.
Sohu also has a thriving wireless business that provides services like news, mobile games, and ringtones. The gaming business is the backbone of Sohu, and the company develops, operates, and licenses massively multi-player online games, or MMOGs, through its subsidiary Changyou, which has more than 175 million registered accounts.
The state of saturation of the Chinese Internet market is a few years behind that of America, and as a result, Sohu is still growing at a rapid pace. The company was founded in 1996, but revenues have really taken off during the past six years or so, rising more than fivefold during that time.
Source: TD Ameritrade
So, don't let the lofty valuation of 27.2 times forward earnings scare you away. Revenues are expected to grow by 30% this year and another 19% next year, with earnings expected to grow by 35% and 26% respectively. In other words, this is a rapidly growing company that is priced for about half of the growth it is projected to experience in the coming years.
Baidu: like buying Google in 2004
Baidu has been referred to as "China's Google" for some time now, and for good reason. The company is not only the leading provider of online search services in China, but is the most trafficked website of any kind, and is the fifth most trafficked website in the world. Investors may be hesitant to buy into Baidu now due to its recent rally -- it's up by more than 60% in the past 5 months -- but there is still tremendous potential over the long run.
Baidu is growing its offerings and is continually improving the monetization of its search traffic. As the Chinese middle class continues to evolve, companies will have higher ad budgets. Baidu is in an excellent position to capitalize, being the early leader. Revenues have more than quintupled in the past five years, and are expected to increase by another 39% this year and 33% next year.
So, as the above chart shows, Baidu's growth is showing no signs of slowing down. Baidu has an especially high potential in the relatively untapped mobile market in China. While it is true that most Chinese citizens have mobile phones, the market in China is still dominated by lower-end phones, and we are just beginning to see a significant influx of smartphones into the marketplace. In fact, Baidu just recently acquired a leading mobile app platform developer, which shows that the company intends to take full advantage of the opportunity.
Conclusion
While this is by no means meant to be an exhaustive list, as there are plenty of excellent Chinese Internet companies, these are two excellent candidates for sustained, rapid growth that are still trading at excellent valuations. While the American Internet giants may be getting a little bit pricy relative to their future potential, their Chinese counterparts still have a rapidly growing marketplace to feed their revenue growth for years to come.
