Why Baidu Inc (ADR) Stock Could See a 20% Rally

Shares of Baidu Inc (ADR) (NASDAQ:BIDU) have been struggling since its late-October earnings report. While Baidu beat on earnings per share estimates, it came up short of revenue expectations. So what should we make of the BIDU stock price being down almost 13% from its highs?

What Was So Bad About Earnings?

The BIDU stock price fell almost 8% in one day following earnings. How bad could it have been? The revenue miss was slight, but guidance came up really short. Management’s forecast for fourth-quarter revenue of $3.34 billion to $3.52 billion was below consensus estimates looking for $3.73 billion in sales.

Could this be a positive though? I think Baidu’s sales estimates came up short because it sold off its takeout and mobile games businesses. Management’s guidance calls for 22% to 29% growth, vs. expectations for ~35%. However, excluding its “disposed businesses,” revenue growth would be roughly 28% to 34%, management says. This is still short of analysts’ expectations, but not by nearly as much.

Underlying metrics are accelerating, and Baidu’s profitability is increasing, too. Operating margins jumped 1,100 basis points in the quarter as operating income jumped 69% year-over-year. Revenue per user soared 31% as the use of AI is helping enable customer growth for Baidu. Many call Baidu the “Chinese Google,” the latter of which is a unit of Alphabet Inc (NASDAQ:GOOGL, NASDAQ:GOOG).

Sales are still forecast to grow more than 20% this year and next. Earnings (uncharacteristically) should jump about 60% this year and grow just 4% in the following year. But beyond that, analysts expect 25% growth. As a result, the BIDU stock price trades at just 26.2 times 2017 earnings. That makes it look a lot cheaper than its ~42 times 2016 earnings valuation.

On a trailing basis, BIDU stock looks expensive, and that could be one overhang, even though it shouldn’t be considering its forward valuation. The same could be said for a number of growth companies, including Alphabet, Alibaba Group Holding Ltd (NYSE:BABA) and Facebook Inc (NASDAQ:FB).

Trading BIDU Stock

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Most recently, the company reported that Single’s Day revenue jumped 120% YOY. While Baidu didn’t break out the actual revenue numbers, this was an encouraging bit of news. Ultimately, Baidu is doing a lot of great things, and we’ve seen how powerful search is as a business. It makes me feel that the pullback in BIDU stock is overdone. Fortunately, BIDU stock has given us previous levels to trade against.

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Looking at Baidu’s chart, we can see that BIDU stock has solid support at $230. Shares briefly traded below this level before reversing and finishing near $235. That only validated this level as support in my eyes. Since then, BIDU stock has been on the rise. Currently near $240, it’s unclear if this level will act as short-term resistance or support. I expect $250 to act as resistance in the short term, which also served as a major top several years ago.

However, should the BIDU stock price push above $250, it should make a run at its previous highs near $275. That would be a rally of nearly 20% from its recent lows. While the potential rally won’t happen in a straight line, Baidu has the fundamentals to drive its stock higher.

The MACD measures momentum (blue circle), and BIDU is on the verge of turning bullish. The Relative Strength Index (RSI) measures how overbought or oversold a stock is (yellow circle). BIDU stock has quite a ways to the upside before it shows any signs of being overbought.

Bottom Line on Baidu

Admittedly, Baidu did have some issues, and its stock paid the price. But now its business is going strong, and its operating results continue to expand. Margins and profitability are going higher, and revenue growth remains strong. Its forward valuation is reasonable in my eyes, given the size, strength and digital trends in Asia.

For that reason, so long as the BIDU stock price stays above $230, investors can stay long the stock. Should $230 fail, short-term investors can cut their losses. $210 to $215 would be the next level to consider buying, but we would first need to see what circumstances sent BIDU below $230. Until then, stay long and/or consider a new position between $230 and $240.

Bret Kenwell is the manager and author of Future Blue Chips and is on Twitter @BretKenwell. As of this writing, Bret Kenwell did not hold a position in any of the aforementioned securities.

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