Thursday, February 15, 2007

Color On Quarter: Baidu (NASDAQ:BIDU)

Baidu (NASDAQ:BIDU) getting mainly negative comments following co's 4Q06 report.

- Goldman Sachs notes that 4Q2006 revenue of RMB271mn was below their RMB275mn estimate and the company's midpoint of guidance, while operating margin outperformed at 40.2% versus their 38.0% estimate, resulting in 5% and 8% upside to their EBITDA and EPS estimates (excluding a 1x tax benefit). The decelerating top-line growth is likely to continue in 1Q2007 with flat sequential growth expected vs. 18% in 1Q2006, their prior forecast of 11% and the Street's 11%. Baidu is experiencing frictional costs associated with its transition to a direct sales force in Beijing, its new monetization platforms, and a likely slowdown in the growth of the search advertising industry given just 6k new customers, down from 12k in 3Q2006 and ~10k in 4Q2005. Operating margin levels in 4Q2006 are likely to be offset in 2007 by the incremental USD$15mn of investment in Japan. Firm maintains Neutral rating and $128 price target, but they are incrementally more concerned with industry growth.

Shares could be flat to down given the significant deceleration in top-line growth and the third consecutive miss vs. expectations and the midpoint of guidance. Margin outperformance is likely to result in unchanged EPS estimates given the incremental investment in Japan. In addition, results, guidance, and recent strategic initiatives, namely Baidu's expansion into other markets (i.e. Japan) and other formats (i.e. branded, news), amplify firm's concern that the Chinese paid search market may be slowing until e-Commerce or other structural development accelerates.

- CIBC says the key concern is slowing customer growth and increasing churn rates. Baidu's transition from 3P distribution to direct, as well as algorithm updates remain disruptive. BIDU is the first Chinese search engine trying to pass local independent distributors. Firm is reducing their GAAP EPS estimates by $0.12 in '07 and $0.10 in '08, to reflect slowing customer growth, and '07 guidance of $15M additional spend to expand into Japan (more than firm's forecast). Management should continue to leverage SG&A.

Firm's thesis unchanged. Firm believes Baidu is well positioned to be China's search leader. However, it faces growing pains, near-term monetization challenges and an immature e-commerce market. Shares may be volatile, but could trade at$100-$130 based on 1.2X-1.5X PEG and 30-40X P/E.

- UBS notes Baidu reports Q406 EPS of US$0.45, higher than market consensus, mostly due to lower marketing and administrative expenses and the booking of tax income. On the negative side, Baidu guides for flat QoQ revenues growth in Q107 and US$15m spending related to its entry into the Japanese search market in 2007.

Firm is cutting their 2007/08 revenue forecast by 14%/11%. They expect spending related to Baidu's entry in Japan to offset higher-than-expected operational leverage. Firm's new EPS forecast for 2007/08 are US$1.57/2.58, down from previous forecasts of US$1.84/2.83.

Firm is upping price tgt to $99 from $96 but downgrading their rating to Reduce from Neutral.

Notablecalls: The EPS beat was mainly due to 1x tax benefit, so the qtr was not so great after all. Given the negative broker chatter this morning would expect the shares to trade down from afterhours prices.

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