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Bull of the Day: Baidu (BIDU)

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I wrote about Baidu (BIDU - Free Report) as the Bull of the Day in November after the company's Q3 report inspired analysts to raise estimates and upgrade their outlooks as several business transitions were gaining traction.

As of Nov 27, the strong earnings beat and raised guidance caused the Zacks EPS Consensus for this year to jump 10% to $8.25. Since then, the consensus has moved up to $9.01.

But following the Nov 16 report, the stock fell from new 52-week highs above $150 and languished for two weeks, revisiting the $132-133 support zone where I had begun an initial position in July.

Amidst that uncertainty and languishing share price, here's what I concluded in my Nov 27 report...

Bottom line on Baidu: The transformation into an AI powerhouse is real and streaming/social deals won't determine the fortunes of BIDU. I would remain a buyer of pullbacks to $130.

Then on December 9, the stock went on a 5-day tear, breaking above $150 and surging to $186 in big volume.

From the Google of China, to the Tesla of China?

The big catalyst on Dec 15 that moved shares 14% from $163 to $186 was a story in Reuters about Baidu in talks with several electric vehicle (EV) manufacturers in China to build their own next-gen EVs.

Since Baidu has deep experience with both artificial intelligence (AI) systems and ADAS (advanced driver assistance systems) that supply Volkswagen, Toyota and Ford, the speculation about the company making a deeper push into the auto industry really ignited some investor interest.

Baidu would offer EVs expanded capabilities based on their proprietary AI systems. The Reuter's story on the evening of Dec 14 was based on 3 sources and the company did not confirm any of the speculation, but I found this fact highly interesting...

"Baidu operates autonomous taxi service Go Robotaxi with safety drivers on board in Beijing, Changsha and Cangzhou, and plans to expand to 30 cities in three years. It gained approval last week to test five cars in Beijing without safety drivers."

"Winner Take Most"

I borrow this phrase from Cathie Wood of ARK Invest who has made her followers very happy with heavy investment in Tesla (TSLA - Free Report) shares. If you saw my February video and article Tesla to $7,000: Buy the Launch Abort at $500, you know that she moved her price target from $5,000 to $7,000 (pre-split) in January.

Her thesis was always a long-term view that Tesla would own the "autonomous EV + ride-hailing" space, with their capability to generate 80% gross margins. Her vision for Tesla as an investment is unfolding much faster than even she anticipated, as she expects the real "disruptive innovation" fruits to take another decade to blossom.

Now even thought Baidu isn't going to take on Tesla in the luxury and mid-tier EV market, their total addressable market opportunity in China could be even greater with autonomous driving for the masses.

My colleague Dave Borun has spent years studying the economics and technology of EVs, especially the battery and energy storage innovations. He has published several special reports for Zacks Ultimate members on the topic, with the most recent in October totaling 24 pages packed with info and insight -- and it didn't even include the 20+ slide research presentation he does for institutional investors to explain the battery technology.

So when Dave talks about EVs, I'm listening. Here's what he told me when I asked him about all the various players in China...

The opportunity is "hundreds of millions of people who have never owned a car and have no preconceived notion about what a car should look like - or even if they should let it drive for them, share ownership, lend it out when they're not using it, etc. It's like a totally blank slate and I'm positive there will be some big winners as the market matures."

That was all I needed to hear to remain invested in Baidu. Because despite issues of questionable financial reporting and fraud among many Chinese companies, the one thing we can't deny is that somebody is going to win in the world's largest middle class where the government is fully behind building infrastructure to keep the massive population thriving.

I don't invest in very many Chinese companies because of the unknowns and risks. But when I do, I focus on "winner take most" companies like Alibaba and Baidu.

Autonomous EVs > Livestreaming

Since we now also have news about Apple working hard behind the walls of their R&D spaceship on a self-driving car for the mass market, it's a good time to review the hard work that Baidu has already done to stake their claim in the Chinese market.

Here's what I wrote last month about my Baidu views and the one Wall Street analyst who shared them...

Immediately following the company presentation and conference call (on Nov 16), Mizuho analyst James Lee raised the firm's price target on Baidu to $185 from $170, noting that the company's core revenue reached positive growth one quarter earlier than expected and was guided up 5% year-over-year for Q4.

Baidu also launched an expansion into "livestreaming," the new platform rage among Chinese youth for shopping and following influencers, by acquiring JOYY (YY - Free Report) Live's Chinese business for $3.6 billion. Lee likes this move because it diversifies the revenue stream strongly into ecommerce and subscriptions and maintained Baidu as his top pick in China.

Lee also anticipates the AD (Autonomous Driving) segment's asset value could be unlocked through a strategic investment with leading OEMs, which could provide a 20% upside to the stock price.

I have always believed that AI and AD represented the primary growth drivers for Baidu, not internet search and advertising, as many Alphabet (GOOGL - Free Report) investors must also believe about their beloved.

But for Baidu, I think these growth levers are stronger here because of the strong Chinese government support for advanced technologies. In early 2018, I described the development of the first urban "AI park" outside of Beijing where Baidu would be the primary R&D company to build and test AD technologies.

Since then, an "AI park" sprung up around Shanghai in 2019. And while NVIDIA (NVDA - Free Report) gets all the attention as the premier builder of AI hardware and software stacks, Baidu's pedigree in AI is beginning to bear fruit.

More coming up on Baidu's evolution into an AI powerhouse in China, right after we take care of some recent negative news.

Muddy Waters shorts JOYY (YY - Free Report) , calls company "almost entirely fraudulent"

Unfortunately, 2 days after Baidu's strong report, I had to share this update with my TAZR members...

Carson Block's Muddy Waters Research said via Twitter, "MW is short $YY bc we conclude it is a near-total fraud. We conclude its businesses, users, and cash are a fraction of what it reports. We estimate that ~90% of YY Live revenue is fraudulent, and ~80% of Bigo rev is fraudulent...When $BIDU diligences $YY Live, the massive scale of fraud will be apparent. Is BIDU so desperate to show growth that it will pay ~7% of its market cap for an almost entirely fraudulent business? Is China Inc that rotten?. Bigo's rot stems from inception & the lie about who founded it. This lie enabled Chmnn Li to defraud at least $156.1 million of real money from $YY shareholders & YY to fraudulently report substantial remeasurement gains."

YY shares dropped over 25% late on Nov 18, from new highs above $105 all the way down to the low $70s. But they have since recovered to $90 as more is learned about the two businesses. And BIDU, who had just made new 18-month highs above $150, fell back to $140.

The short report claims that YY meaningfully misled investor regarding its financials by misrepresenting how revenues flow between itself and talent agencies. Essentially, YY controls talent agencies that manage influencers on the livestreaming platform and paid more than 50% of the total volume of virtual gifts. To support that claim, the Muddy Waters report points to PRC’s Credit Bureau, indicating that the five largest MCNs (talent agencies) on YY contributed only 15% of YY Live’s reported revenues.

Here was reaction from Mizuho's Lee...

We do not cover YY, but based on our understanding of the Livestreaming industry, a platform typically has an internal talent agency that acquires, trains and manages influencers, so the claim by the report is not unusual, but materiality of revenues is the issue that YY needs to address, in our view.

In light of this report, we have confidence in Baidu management to conduct additional due diligence on issues raised by the report. At the same time, we believe that the acquisition could be delayed if YY hires an independent advisor to conduct its own reviews, very similar to what IQ did when facing an allegation of accounting improprieties a few months ago. Furthermore, a potential SEC inquiry could also slow the process.

If Baidu cannot move forward with the acquisition due to MAC (material adverse change), we believe that the company could either build a livestreaming platform internally, or seek other acquisition candidates.

Lee maintained Baidu as their top China Internet pick with a $185 price target, based on a SOTP (sum of the parts) valuation, noting that the stock trades at only 4X FY22 Baidu core EBITDA, against their estimated CAGR of 16%. He said the buy thesis has not changed as all previously outlined catalysts are still in play.

Baidu's Industrial AI Frontier in China

I've always admired Baidu for its committed role in AI, especially as I learned more about the vision and ethics of former chief scientist Andrew Yan-Tak Ng. As a technologist and investor, Ng co-founded and led Google Brain and was a former Vice President and Chief Scientist at Baidu, building the company's Artificial Intelligence Group into a team of several thousand people.

Ng is now an adjunct professor at Stanford University (formerly associate professor and Director of its AI Lab). Also a pioneer in online education, Ng co-founded Coursera and where he has successfully spearheaded many efforts to "democratize deep learning," teaching over 2.5 million students through his online courses.

In July when I bought shares, I highlighted news for TAZR members on Baidu's "new infrastructure" plan for the smart economy...

Baidu Unveils Plan to Increase Investments in New Infrastructure to Power the Rise of Industrial AI

--Plans to Deploy 5 Million AI Cloud Servers by 2030 and Train 5 Million AI Professionals--

Baidu announced that it will increase its investments in cloud computing, AI education, AI platforms, chipsets, and data centers in the coming ten years as part of its efforts to construct "new infrastructure" for the smart economy of the future.

"New infrastructure -- which encompasses emerging technologies like AI, cloud computing, 5G, IoT, and blockchain -- will be the driver for China's economic development in the coming decades," said Baidu Chief Technology Officer Haifeng Wang.

Under the plan, Baidu aims to have 5 million intelligent cloud servers by 2030 and train 5 million AI professionals within 5 years, which will help facilitate the widespread application of AI in transportation, city management, finance, energy, health care, and manufacturing to eventually achieve industrial intelligence.

Deploying 5 million intelligent cloud servers by 2030 is an ambitious target that would create a combined computing capability equal to seven times the total calculable computing power of the world's existing top 500 supercomputers.

Viewing human capital as a core component of the new infrastructure, the Baidu goal to train 5 million AI professionals in the next five years keeps humans at the center of this massive AI R&D. Baidu has been working with more than 200 leading universities in China to develop courses related to AI and deep learning and has already trained more than 1 million AI experts.

It sounds like China might be better paced than the US to migrate college students into jobs of the future.

Baidu has more than 7,000 published AI patent applications in China, the highest in the country. The AI open platform Baidu Brain has made available more than 250 core AI capabilities to over 1.9 million developers, while PaddlePaddle, the largest open-source deep learning platform in China, services 84,000 enterprises.

Baidu's Kunlun and Honghu AI chips are among the highest performing AI chips and are built for a wide range of scenarios. Baidu Cloud is China's leader in public cloud and AI cloud services with more than ten data centers across the country.

This new infrastructure is already allowing Baidu to lead the intelligent transformation of different industries. Baidu's smart finance products serve nearly 200 financial institutions, while Baidu's intelligent healthcare products are deployed at more than 300 hospitals and 1500 grassroots medical institutions.

Baidu Brain for Cities is already in place in Chongqing, Suzhou, and other cities, supporting more intelligent city management. Baidu's new investments will enhance its ability to rollout AI applications in these scenarios, as well as in manufacturing, energy, and transportation.

Bottom line on Baidu: The transformation into an AI powerhouse is real and streaming/social deals won't determine the fortunes of BIDU. I would remain a buyer of pullbacks to the $160-170 area.

Disclosure: I own shares of BIDU and NVDA for the Zacks TAZR Trader portfolio.

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