Which of the Top Internet Search Companies Should You Buy?

Brian is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

In the final three days of last week, Russian search company Yandex (NASDAQ: YNDX) rallied 10.5% as the company continues to grow its search share and post strong growth. The internet search market globally has massive potential, leaving much upside in advertising for the major players. And although Google (NASDAQ: GOOG) and Baidu (NASDAQ: BIDU) get all the headlines, Yandex might be the best play.

For all developed regions of the world there is a company, like Google, that is used for internet search. In the U.S., and in many other countries, Google is the predominant force. In fact, it is by far the most used search engine in the world and continues to grow its dominance. However, thanks to regulations and the limitations of patents, there are some companies who have been able to successfully mimic the search giant, two being Baidu and Yandex.

If you visit both the websites of Baidu.com and Yandex.com, you will see sites that mirror Google.com, down to the exact same layout. Yet these companies are of all different sizes, growth, and potential. Therefore, let’s take a look at the fundamentals and metrics of each company.

<table> <tbody> <tr> <td> <p> </p> </td> <td> <p>Google</p> </td> <td> <p>Baidu</p> </td> <td> <p>Yandex</p> </td> </tr> <tr> <td> <p>Market Cap (billions)</p> </td> <td> <p>$224.83</p> </td> <td> <p>$31.24</p> </td> <td> <p>$7.51</p> </td> </tr> <tr> <td> <p>Trailing P/E</p> </td> <td> <p>21.44</p> </td> <td> <p>20.22</p> </td> <td> <p>31.20</p> </td> </tr> <tr> <td> <p>Forward P/E</p> </td> <td> <p>14.76</p> </td> <td> <p>14.84</p> </td> <td> <p>20.87</p> </td> </tr> <tr> <td> <p>Price/Sales</p> </td> <td> <p>4.78</p> </td> <td> <p>9.54</p> </td> <td> <p>8.46</p> </td> </tr> <tr> <td> <p>Profit Margin</p> </td> <td> <p>22.20%</p> </td> <td> <p>47.51%</p> </td> <td> <p>29.01%</p> </td> </tr> <tr> <td> <p>Return Assets</p> </td> <td> <p>10.50%</p> </td> <td> <p>24.51%</p> </td> <td> <p>15.60%</p> </td> </tr> <tr> <td> <p>Return Equity</p> </td> <td> <p>17.18%</p> </td> <td> <p>50.39%</p> </td> <td> <p>25.10%</p> </td> </tr> </tbody> </table>

The key point to remember about the Chinese market is that although the largest it also has significant competition, as does the U.S. A company such as Baidu faces competition from a number of Chinese companies such as Qihoo and Sina. Yandex is expected to see the greatest level of growth over the next year, but is also more expensive compared to earnings than either Baidu or Google. However, in terms of price/sales it is cheaper than Baidu and has more room to grow its margins.

My problem with Baidu as an investment is competition and its already high margins. The company has been incredibly efficient at capitalizing on all of its investments and returning high profits on all assets and equity. However, at some point to continue growing, the company will have to take some risks. And with a 47% profit margin I don’t see where margins could expand, especially with the company making a push into the mobile space in both phones and in search.

Over the last couple years we have seen Google’s margins decline and it have trouble monetizing certain assets. Just last week there was a report from Goldman in regards to Google’s presence and growth in mobile. Google’s Android operating system does have the largest piece of the smartphone pie, but has very conservative web traffic compared to its counterparts.

According to Goldman, Apple’s iOS accounts for 60% of all web traffic despite Android having a larger market share. This means that Android users are not as engaged nor are they using their phones to search and browse to the same degree as iPhone users. Then, when you take into consideration that smart phone web usage is growing rapidly as one of the fastest-growing markets in the U.S., and that Google charges 30-50% of what it charges for PC ads, it looks as though there could be some problems with monetization and growth in the years that lie ahead.

In regards to Yandex, there are several reasons that I like the stock. First, it has proven itself successful at maintaining its market share against Google’s “liveinternet.ru” search. Yandex’s local search share is over 60%, compared to Google’s 26%, and has room to grow in other regions throughout the globe fairly inexpensively. Furthermore, Yandex’s business is diversified and doesn’t face the same questions as Baidu nor Google. The company is guiding for revenue growth of 42%-45% in 2013, and is seeing balanced growth with stronger margins from all of its segments.

Yandex has already said that it plans to take on Google in emerging markets where the search leader controls 90% of the market, such as in Turkey. And because this potential growth is not priced into its stock I think Yandex could become a pleasant surprise in 2013.

However, all three companies are strong, I just feel as though Yandex has fewer questions. I don’t see how Baidu can possibly continue to maintain margins and achieve cheap growth. And I don’t know how Google will transition to mobile successfully and deal with increased competition in emerging markets. Baidu and Google are both at the top of the leaderboard in the space, and will most likely stay at the top. But I think Yandex has more upside to grow from this point moving forward, especially in 2013.

BrianNichols has no positions in the stocks mentioned above. The Motley Fool owns shares of Baidu and Google. Motley Fool newsletter services recommend Baidu, Google, and Yandex. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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