2023-04-23 05:27:46 ET
Summary
- I like Baidu as the key enabler of AI adoption across industries in China, working on autonomous driving, ML/ AI cloud computing, and even chip design.
- Baidu recently leveraged its AI research efforts to bring to market the Ernie bot, the Chinese equivalent of OpenAI's ChatGPT.
- I anticipate that investor sentiment will be supported by a solid and strengthening performance from Baidu Core's advertising business.
- In my opinion, a rebound for BIDU towards $150-160 per share is imminent, with a 2024 PT of $256.90 per share.
Baidu ( BIDU ) stock has enjoyed strong investor interest in early Q1 2023, following the company's announcement to bring to market a large language model named Ernie bot, the Chinese tech-giant's response to OpenAI's ChatGPT. However, since the actual launch of the Ernie bot on March 16th, the positive tailwind for the stock price has faded, and Baidu stock has trended down towards approximately $125 per share.
In my opinion, a rebound for BIDU towards $150-160 per share is imminent, as the Chinese internet giant's work with the Ernie bot will likely continue to push positive news flow. Moreover, I anticipate that investor sentiment will be supported by a solid and strengthening performance from Baidu Core's advertising business. Based on various economic data from China, I argue there has been (Q1 2023) and will be (Q2 and beyond) a significant pick-up for digital advertising demand, particularly following the COVID reopening prior to the Chinese New Year.
In my opinion, Baidu stock is undervalued; and I reiterate a 'Buy' rating with a $256.90 /share target price.
For reference, Baidu stock has outperformed recently. For the trailing twelve months, BIDU shares are up about 8%, as compared to a loss of approximately 6% for the S&P 500 ( SP500 ).
The Ernie Bot Opens A Nascent, But Giant, Business Opportunity
Baidu has pushed research on AI for almost a decade now, working on autonomous driving (Apollo), ML/ AI cloud computing (Baidu AI cloud), and even chip design (Kunlun). Now, with the positive momentum surrounding generative AI in context of language models, Baidu's prior research efforts positioned the company to take a leading position in the race for bringing to market large language models--with Baidu's answer to the challenge being the Ernie bot.
More than Moore, DR. Ian Cutress
Baidu's Ernie bot is basically the Chinese equivalent of OpenAI's ChatGPT. And while the Ernie bot is not yet available for use to the public, the technology has been tested and approved by leading tech analysts--including analysts at Bank of America (BAC), Citigroup (C), and UBS (UBS). That said, Baidu has voiced commitment to make enterprise-oriented services a top priority, and the Ernie bot has enjoyed some amazing early success in addressing business customers. According to company disclosures, the Ernie bot has received more than 120,000 access requests (In a research note, Morgan Stanley suggested 140,000 requests) from enterprise customers in various sectors, including finance, automotive, and media.
With such strong interest from enterprise customers, Baidu has already announced its pricing strategy for using the Ernie Bot API, which is preliminarily pegged at a rate of Rmb0.012 for every 1,000 tokens. This pricing structure is comparable to GPT-3's cost of US$0.002 per 1,000 tokens, and significantly cheaper than GPT-4's rate of US$0.03-0.06 for every 1,000 tokens.
With that frame of reference, I don't expect that business opportunities relating to the Ernie bot will boost Baidu's topline before early 2024, or 2025. However, taking a long-term perspective, I argue that Baidu will undoubtedly enjoy a strong tailwind from the increasing demand for large language models and AI in the enterprise market. Moreover, Baidu's work with large language models may support additional opportunities for cross-selling various cloud services, leading to increased customer engagement and business potential.
In context of regulatory risks, which must not be ignored for investors assessing opportunities in China, I believe that Baidu's AI ambition will enjoy government support, rather than headwinds. Additionally, I believe that Baidu's expertise in handling search-related risks positions the company in a favorable place to effectively manage any regulatory hurdles that may surface.
A Strengthening Core Business
On the backdrop of easing COVID lockdowns, and as the economy in China is picking up steam, Baidu management voiced a positive outlook for Q1 2023 and beyond. In the analyst Q&A session following Q4 results, Baidu CEO Robin Li commented:
So far in Q1, we have already seen a recovery of our online marketing revenue from the Cloud, in particular from verticals in healthcare, travel, business services and lifestyle.
Assuming no significant new disruptions, we expect this recovery trend to continue and boost our online marketing revenue through increased demand and take advantage of pent-up consumption in China. We also anticipate resuming cloud project implementation as business operations return to normal, signing new contracts and accelerating AI cloud revenue growth.
adding that:
[Baidu has] seen substantial improvements in our largest verticals, including health care, travel, lifestyle and franchises.
Baidu's confidence about the Q1 quarter is supported by the latest macroeconomic data from China, as the country closed Q1 (March) with retail sales growth of 10.6% YoY, exports growth 14.8%, and Q1 GDP expansion of 4.5%. With that frame of reference, for FY 2023, Goldman Sachs sees China's economy expand by 4.5% YoY, and Morgan Stanley estimates GDP growth of 5.4% YoY.
That said, while market analysts are increasingly optimistic about China's macroeconomic prospects, equity analysts' outlook for Baidu's Q1 2023 performance and beyond remains depressed. In fact, for Q1 2023 analyst consensus expects revenue of only $4.36 billion, which would suggest a YoY expansion versus Q1 2022 of only about 3%. And accordingly, still depressed sentiment may suggest an imminent upward revision of FY 2023 consensus estimates, and a likely rerating of BIDU stock.
Investment Risks
As the major risk for investing in Baidu, I would like to point out that China's tech and internet industry has in the recent past faced significant regulatory pressure , which could--if continued--adversely affect their operations. Although the worst of the 'crackdown' seems to be over, the elevated risk remains a concern. Furthermore, Baidu's stock price volatility is heavily influenced by investor sentiment towards Chinese ADRs and risk assets. As a result, the company's business fundamentals may remain unchanged, yet its stock price may experience significant fluctuations.
Conclusion
I like Baidu as the key enabler of AI adoption across industries in China, and while near/- mid-term visibility for value accumulation for the Ernie bot remains clouded, I am confident to predict that the company's fundamentals will improve materially withing the next 5, 10 and perhaps 15 years.
Looking at the upcoming Q1 2023 report, I expect that Baidu Core's advertising business will demonstrate a strong and improving performance, which should bolster investor confidence. My view is based on several economic indicators from China, which suggest a substantial increase in digital advertising demand in Q1 2023 and beyond, which markets arguably still need to price.
Personally, I continue to believe that Baidu should be valued fairly at around $256.90/share, which is anchored on a residual earnings valuation framework -- see here.
For further details see:
Baidu: Future AI Giant With Improving Core Ad Business