Top 5 Tech Stocks for Fall 2012 - #1 Baidu

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Last year, we released our Top 5 Tech Stocks for Fall 2011 at Fastball Financial.  The list was a success, producing a 5.9% return versus 1.3% for the S&P 500.  With the goal of meeting or exceeding those results, we developed a similar list for 2012.  Thus far, the list consists of Accenture (ACN), SalesForce.com (CRM), Rackspace (RAX) and F5 Networks (FFIV).  Rounding out our Top 5 Tech Stocks for Fall 2012 is Baidu (NASDAQ: BIDU), the dominant search engine in China.

The Chinese market has gone cold.  What was once the hottest thing going, investors are now avoiding altogether.  I Can’t blame them.  China can be a tough place to invest, especially if you are half way around the world.  We’re not too sure about their accounting, or many other regulations for that matter.  It’s a different culture altogether.  Censorship is literally a foreign concept to us.

However, that doesn’t mean that all Chinese stocks should be avoided.  For instance, take Baidu, an internet search company that is considered to be the “Google” of China, in simple terms.

Searching for Higher Prices

Baidu was once the darling of the stock market.  The chart below shows Baidu’s tremendous growth.  The low values look strange because of how many stock splits they have completed.  In early 2009, Baidu was around $11 (split adjusted).  It rose to a peak of about $160 in the summer of 2011.  That’s a 14.5X return in only 2.5 years!!

<img src="http://media.ycharts.com/charts/c728a68a1157fea939092080f26fdf6b.png" />

However, since then Baidu has been stuck bouncing between $100 and $150.  Much of Baidu’s “woes” over the past year come from simply being a Chinese stock.  But the chart below shows the gift that investors are being given.  Amazingly, while its stock price grew dramatically, its PEG ratio plummeted.  For the past year and a half, Baidu’s P/E has been half its historical growth rate.  Right now, you are getting a P/E of 30 with a year-over-year earnings growth rate of 69.6%.

Competition

  • Google (NASDAQ: GOOG) - You would think that Google would be a competitor in any search market.  However, it still has yet to break-through in China in any meaningful way.  In fact, Google has been battling with China over censorship and other government controls, and really doesn't seem all that interested in dealing with China in the near-term.
  • Sohu (NASDAQ: SOHU) - is a Chinese on-line media company that is building its own search engine into the on-line services it provides.  While its product is clearly regarded as inferior to Baidu's, it does offer the convenience of being embedded into media already being used by consumers.  It doesn't seem like much of a significant threat to Baidu, but it's something to keep an eye on.

Risks

The big question for Baidu, as with all growth stocks, is how long the party can continue.  At what point does the law of large numbers catch-up to Baidu?  I don’t think this is too much of a concern given the size of the Chinese market and Baidu’s dominant position therein.  Google has tried to get going in China, but thus far has failed, much of that due to censorship restrictions.  That means that Baidu is likely to continue its dominance of the search market in China.

The other big concern is the financial health of China in general.  Right or wrong, in any economic downturn, advertising spending is the first thing to go.  If China does in fact experience a hard-landing, Baidu’s ad revenue will be significantly impacted.

Bottom Line

Baidu is a case where history is on your side and you are getting a great value to limit your downside.  Even if Baidu’s growth slows somewhat, its P/E of 30 represents a reasonable valuation for that slower growth rate.  Even if its growth rate got cut in half, Baidu would be trading at a PEG of 1.  Bottom line, this stock has limited downside, but a ton of upside if China can turn itself around.


Zaegs owns shares in Baidu. The Motley Fool owns shares of Baidu and Google. Motley Fool newsletter services recommend Baidu, Google, and Sohu.com. 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.If you have questions about this post or the Fool’s blog network, click here for information.

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