Here’s How Baidu Could Be Impacted By China’s New Rules For Online Search And Advertising

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After Baidu (NASDAQ:BIDU) was accused of promoting false medical information on its search platform last month, Chinese regulators initiated an investigation on the search engine’s practices and have now issued new rules for online search and advertising in the country. The regulator recently announced that search companies must provide “objective, fair and authoritative” results which shouldn’t harm the rights and interests of the nation, public and other legal organizations. Search companies are also required to identify and label paid ads clearly, distinguishing them from regular search results and limiting the number of paid ads per page. As Baidu works towards meeting these regulatory requirements and reducing sponsored links, the company revised its second quarter revenue guidance from around $ 3.2 billion (its previous estimate) to around $ 2.8 billion (post new regulatory guidelines). Search services revenue per user is a key driver of Baidu’s valuation and a decline in this number will impact the company’s valuation negatively in the short term.  That said ethical practices should improve user trust and benefit the company in the longer term to grow its user base.

See our complete analysis of Baidu here

Ethical Practices, Limited Sponsored Links Can Provide Longer Term Benefits

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Baidu’s reputation was impacted negatively by an incident in an ill student’s died following a cancer treatment promoted on its website.  That said, lack of search engine alternatives in China did not impact users significantly. (Read Is Baidu’s Advertising Business In Trouble ?). However the company is now working towards an enhanced user experience by limiting number of advertisements per page and enforcing higher standards for advertisers, including user protection. While its medical advertisers are off the platform for now, the company expects good quality of advertisers to return in the long term. Baidu is looking to bolster a healthy, safe, trustworthy online and offline ecosystem which should benefit the company in the long term.

We estimate Baidu’s search services revenue per user to increase steadily from $13.50 in 2016 to around $ 21.00 by the end of our forecast period.

However, as the company limits sponsored links and filters advertisements to meet the regulatory requirements and its own best practices, this revenue will grow at a slower pace. There can be a nearly 10% downside to our price estimate if this revenue falls to $ 12.00 in 2016 and increases to $ 20.00 by the end of our forecast period. This downside can be compensated by an increase in the number of monthly active users, if Baidu’s ethical practices and strong trustworthy reputation is able to attract more users to its platform.

Baidu has been questioned on ethical practices several times but has come out unscathed.  However, the company is now recognizing its social responsibility and looking to rebuild trust among its users, as it grows significantly. With a 70% share in the Chinese market, the company has an undisputable dominance.  Still, building trust among users will be critical for growth in future. We believe while the new regulations will impact Baidu’s revenues and profitability in the short term.  However, a strong reputation should attract more users in the longer term and have a positive impact on the company.

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