This Internet Giant Just Announced a Smartphone, Are You Properly Invested?

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

As we've discussed frequently over the past few weeks (see is Apple now America's largest smartphone OS?), the smartphone industry is becoming more competitive by the year, and most analysts expect continued market share normalization to continue at least over the next half-decade. On Thursday, a rather interesting partnership was announced between Baidu (NASDAQ: BIDU) and Lenovo.

Originally reported by ZDNet, the two Chinese Internet and hardware giants are teaming up to "launch the LePhone A586, which is supported by [Baidu's] cloud platform." According to the report, the phone will be priced at 999 yuan - roughly $159 - and will use the QUALCOMM (NASDAQ: QCOM) Snapdragon S4 MSM processor.

Interestingly, Google (NASDAQ: GOOG)'s Android operating system will be used for the LePhone rather than Baidu's Yi OS, which had been featured on Dell (NASDAQ: DELL)'s Streak Pro models. It is curious that the Chinese Internet giant chose to roll with Lenovo for its new phone, especially when its semi-new OS is being left in the cold, so to speak.

From an industry-level standpoint, the decision to go with Google and Lenovo do make sense, as each clearly has its advantages in the Chinese marketplace. According to Lenovo's first quarter conference call, "smartphone [hardware] market share in China reached 13%" over the summer to take the lead above peers Nokia and Huawei, while Samsung is still in first place.

Google's Android OS, meanwhile, has a whopping 90.1% stake in the Chinese smartphone OS market, according to a November report by research firm Analysys International, leaving mere peanuts for other players like Apple iOS, Nokia Symbian, and Baidu Yi. While we're still waiting on more details the Baidu's cloud-supported Android/Lenovo smartphone, ardent investors would be wise to consider an investment in the Internet company due to its mobile app potential and bargain bin valuation.

Regarding the former, Baidu is currently in the middle of an important transition from desktop to mobile, and company executives have stressed their company is on track to dominate the future. Last month, we discussed Baidu's third quarter conference call, in which CEO Robin Li discussed this trio of important points: “Staying ahead of industry developments, creating a seamless mobile Internet experience and growing mobile users and usage," adding that Baidu's mobile cloud system had registered “over 100,000 developers."

In addition to mobile cloud and app-development, Li and Baidu are also focusing on a best-in-industry Maps software that gives outdoor and indoor navigation, and a remodeled HTML 5 mobile browser.

Getting to the valuation, we can see that to those who follow the Buffett/Greenblatt school of thought, now wouldn't be a bad time to jump in on Baidu, which has been a generally good holding for long-term investors, returning close to 110% over the past three years.

Using sell-side analysts' earnings estimates, we can see that EPS growth is expected to average 41-42% a year over the next half-decade, meaning that at a forward P/E of 14.8X, there's a value opportunity here. We can see this more clearly when looking at Baidu's PEG ratio -- which normalizes expected earnings growth into the stock's valuation -- of 0.48. Typically, a PEG below 1.0 signals an undervaluation, and this mark is also below aforementioned broad-based tech peers like Google (1.38), Dell (1.26) and Qualcomm (1.47).

Even more interestingly, we can also see this disparity when looking at the five-year expected EPS rates of Google (15.7%), Dell (5.7%) and Qualcomm (14.3%), which are far below what is expected of Baidu, yet Google in particular sports a higher forward valuation (14.9X). Essentially, we can come to the logical conclusion that investors are underrating the Chinese Internet giant for its future earnings potential, which even though it's slowing, still yields far more appreciative potential than Google, which is valued at a higher mark.

Even though we haven't seen the exact impact that Baidu's move to team up with two of China's most dominant smartphone players will have on its top line, it's encouraging to see the move in combination with the other developments that are taking place within the company. Throw in the fact that shares are on sale just in time for the Christmas holidays, and it's easy to see why some of the hedge fund industry's best managers love this stock.

Some key names in Baidu include: Ken Fisher (see Fisher's newest stock picks), Ken Griffin, Steven Cohen and George Soros. Check out George Soros's entire portfolio here, and check back at Insider Monkey for more about Baidu's bullish potential.

This article is written by Jake Mann and edited by Meena Krishnamsetty. Meena has long positions in GOOG and DELL. The Motley Fool owns shares of Baidu, Google, and Qualcomm. Motley Fool newsletter services recommend Baidu and Google. 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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