CINDY PONDER: Baidu – one man doesn’t maketh the company

Cindy discusses the cause of the recent drop in Baidu's shareprice, and why we think this is an opportunity.

Baidu – one man doesn’t maketh the company

Last week, Baidu announced that its Chief Operating Officer (COO), Mr. Qi Lu, would be relinquishing his full-time role as COO to focus on part-time consulting for the company. The stock is down about 15% since then, erasing all of April’s outsized gains after its stellar first quarter earnings results. Mr. Lu was a seen as a key employee, coming from Microsoft and being the chief force in the company’s transformation from search engine to Asia’s AI leader.

There are a couple of theories behind this sharp-sell off. First, there is a thought that Mr. Lu’s departure could possibility de-rail or stall its AI drive. However, while his departure may delay some current projects on the table, the company has no intention of stopping the advancement of this technology. Not only is its traditional search engine being enhanced by AI, but its two new business segments: DuersOS (voice activation) and driverless cars are dependent on Baidu developing and applying AI.

Secondly, there is a concern about the high turnover of top management in the last couple of years. While this is true, these cases are related to a 2016 scandal when a student died from finding false medical treatment information on Baidu Search and general dissatisfaction with a CEO that struggled to find a revenue driver after search. Mr. Lu’s resignation does not appear to be a vote of protest against corporate strategy, but a problem of “working in China”.

We will use this weakness to add to Baidu, bringing it to a 5% weighting in the VFTP Model Portfolio. Last month, the stock closed the month up almost 13% on an exceptionally strong set of first quarter earnings with revenues up 31% to 3.33bn, above expectations, and adjusted EPS at $2.60 a share, up 139% y/y, vs. consensus of $1.73.

The company provided positive guidance expecting second-quarter revenues to increase by approximately 22% to between 25.5 billion yuan ($4.2 billion) versus estimates of a 16% rise, according to Thompson Reuters consensus.

Management’s call focused on their progress with AI in two huge business segments: the autonomous driving project, Apollo and voice-activated Internet system, DuerOS. Apollo has made huge progress in a year boosting the development of a Baidu-centred platform signing deals with leading domestic auto manufacturers like Great Wall Motor and battery-maker, BYD. Also, DuerOS is Baidu’s foray into conversational AI and voice activated devices, has shown impressive growth and is starting to contribute to Baidu’s profit.

We continue to believe that Baidu is the best large-cap AI play in China and view this current weakness as an opportunity for those of you who are constructive longer term.

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