How Much Can Chinese Stimulus Impact Baidu’s Valuation?

by Trefis Team
+19.96%
Upside
167
Market
200
Trefis
BIDU
Baidu
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With expectations of the U.S-China trade dispute trending towards a resolution, Chinese stocks have rallied this year. Post Baidu‘s (NASDAQ:BIDU) Q4 results on February 21, we noted that management’s focus on driving AI across its portfolio of offerings and sustained traction in the company’s digital content and self-driving businesses appear to be becoming tailwinds to Baidu’s leadership in its core search business. Baidu’s results also did not appear to have been impacted by the U.S.-China trade disputes significantly, so while it could be impacted favorably by further Chinese stimulus measures, we believe the company’s underlying strength will drive a more significant upside.

Estimating Impact On Baidu’s Stock From Chinese Stimulus

Due to expectations of Chinese GDP growth slowing down in 2018, the Chinese government has been embarking on a slew of fiscal stimulus measures including tax cuts and issuance of municipal bonds. The rationale for fiscal stimulus is that when the government releases $1 in the economy, due to the cycle of spending and tax collection, the likely actual impact of the money released to the overall economy is typically greater than the stimulus.

One way of estimating the impact of the stimulus is by using the marginal propensity to consume (MPC), or the quantification of an increase in consumer spending due to an increase in disposable income. For China, we estimate the MPC to be around 0.38. We also use a stimulus multiplier = 1/(1-MPC) (or 1.62 for China, based on our estimated MPC of 0.38), to determine the impact on GDP. Thus, for every $1 in stimulus measures, Chinese GDP could grow by as much as $1.62.

We thus estimate the potential stimulus that the Chinese government could release into the economy, the consequent expansion in GDP and the percentage of this GDP expansion that is likely to occur in 2019. In addition, we also consider a base rate GDP growth (without the stimulus) to ascertain the total GDP growth.

 

Furthermore, since Baidu’s business performance has been dependent on the Chinese economy, we looked at the stock price performance and growth in GDP for the last three years. Over 2016-2018, the change in Baidu’s stock price has displayed a strong correlation – 99.7% – with GDP growth.

While Baidu’s stock price changes are almost perfectly correlated with the growth in GDP, management’s observation of the company’s limited dependence on the broader economy may be due to the utility nature of Baidu’s core offerings (search) and incrementally advanced offerings based on AI. Thus, using linear regression, we estimate Baidu’s stock price could have upside of around 20% over the course of 2019, while our $200 price estimate based on the company’s fundamentals implies an even greater upside. The results of our analysis corroborate with the company’s portfolio of offerings. You can modify any of the key drivers to visualize the impact of changes, and see all of our technology company data here.

 

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