Google Inc. (GOOG) and Baidu Inc. (BIDU) have faced-off in China over the past few years with Baidu managing to beat Google at the search game in the world’s largest economy. This fact alone, however, doesn’t make Baidu a buy. Though Google certainly doesn’t need another feather in its cap, Google is the more attractive stock of the two right now, and the company has reason to be optimistic about its prospects in Baidu’s home market as well.
Ubiquitous Internet giant Google Inc. [[GOOG]] announces it second quarter earnings Thursday, and with its stock price climbing nearly 4% over the last four days the market seems to be optimistic. The optimism is shared by analysts who expect sales growth of 4.3% year-over-year and earnings-per-share growth of nearly 10%.
More interesting for Google’s long-term prospects is not its earnings report but rather a “strange but true” story from more than a week ago – Google’s search engine and other services were briefly blocked nationwide in China for offering pornographic websites in its search results. Sex is taboo in China and most experts argue it was simply grandstanding by China’s regime, but more important than the particular logic of the temporary block was the rise in Baidu Inc. [[BIDU]], China’s largest search provider, shares.
The bump in Baidu’s prices was unjustified because the block was not permanent nor should it become a trend (which would be an obvious benefit to Baidu); counterintuitively, following the logic of there is no such thing as bad press, the blocking of Google – which was trumpeted on state-owned television in the country – actually led to an increase in Google China traffic once the ban was lifted.
Baidu is certainly the Chinese search engine to beat, commanding 64% of its search market compared to Google’s 30%, in other words the Google of China is Baidu. But Baidu is only a buy if its valuation is attractive and it can maintain is dominance against Google in China.
By the Numbers
Market capitalization $10.3 billion
Forward P/E 36.47
PEG (5-year) 1.44
Market capitalization $134.1 billion
Forward P/E 17.59
PEG (5-year) 1.08
Though a simplistic comparison, Google is more attractively priced than Baidu right now, even when accounting for projected growth over the next five years. Much of this is a reflection of the respective performance of Google and Baidu shares over the last 12 months: Baidu shares have managed to gain more than 2% while Google is down nearly 20%. Google has gotten cheaper.
Will Google Become the Google of China?
One of the fundamental reasons Google trails Baidu in China is Baidu simply has a better search product. As a Chinese-language search engine, Baidu.com is considered to be the leader with a more advanced algorithm that even allows users to search by phonetics – seemingly an arbitrary feature but actually quite important due to the difficulties of written Mandarin. This is an advantaged it is unlikely for Google to overcome any time soon – but surprisingly shifting demographics may make it unnecessary.
Google is the go-to search engine in China for English-language searches, given its expertise in that area, and unfortunately for Baidu the focus on English-language education in China combined with wealth of information in English on the Internet are driving the English-language search market in China to be a bigger slice of the pie. Worse for Baidu, the average Chinese user doing English-language searches is upper-class and urban – a superior profile from advertisers’ points of view.
Baidu also drives a substantial portion of its traffic from a music search services that allows users to search and easily download songs from third party websites – a feature with nothing comparable to it in Google. No longer, Google now offers music search in China – and its search allows direct downloads of free, licensed songs – improving on Baidu (yes, be jealous, in China you can download free, legal music from the libraries of companies like EMI Group, Warner Music, Sony and others).
Lastly, Google is now the exclusive search provider for the country’s largest wireless carrier, China Mobile [[CHL]]. Right now it is not a big deal, but with 488 million subscribers, more than the entire U.S. population and more than the total number of people currently accessing the Internet in China. When cellular users begin accessing the web through their phones – and they will eventually – Google may be handed market share on a silver platter.
Certainly Baidu does plan on rolling-over for Google. Baidu is planning on releasing a peer-to-peer search, possible a very popular product in a country with almost non-existent copyright enforcement, and a rural encyclopedia which would contain thousands of entries geared towards China’s gigantic and largely untapped rural population that is increasing its Internet use by the day.
Nonetheless, Baidu seems to be on the defensive recently despite its large lead in market share. When Baidu’s CFO Jennifer Li’s commented late last month that Baidu is considering acquisitions because the “Internet is at an early stage of its development…and [Baidu needs] to stay ahead” – the cynical takeaway isn’t that Baidu is on the prowl but rather that the company thinks it can’t “stay ahead” through internal product development.
The simple fact is there are a lot of reasons to be optimistic on Google’s chances in this fight. This, combined with superior valuation, makes Google the buy right now, not Baidu.
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