Search Giant Transforming To Leader In AI+Smart Driving
Baidu ranked No. 1 in China’s AI cloud service industry in 2021 on the back of its leading AI technologies, according to IDC. We like Baidu’s unique position in the AI+cloud industry and its leading intelligent driving business unit, which are expected to unlock stock value in the medium to long term, along with a gradual recovery in Baidu’s core advertising business. Initiate coverage with BUY. Target price: HK$151.00.
- Baidu AI Cloud leads above-industry growth. Buoyed by higher margins, Baidu Inc’s (Baidu) AI cloud business, Baidu AI Cloud, achieved above-industry revenue growth of 64%/40% in 2021/2H22 vs the industry’s 35%/9%. We like the unique value proposition of Baidu AI Cloud with its unique focus on the public sector while peers focus instead on the internet industry which is plagued by slowing growth. Baidu also offers increasingly standardised solutions in some industries to drive gradual margin expansion. We expect Baidu to further leverage its AI technology and grow its cloud revenue by 30%/38% yoy in 2022/2023, benefitting from a rise in enterprise multi-cloud penetration.
- Apollo in leading position from technology perspective. Apollo is Baidu’s autonomous driving (AD) platform. In China, Apollo is the leader in self driving, high definition maps, automated valet parking and autopilot navigation system. It has ample commercialisation opportunities and will be Baidu’s main revenue driver in the medium to long term. Apollo will continue to expand its AD software market share going forward. As of 2Q22, Apollo had a Rmb1b OEM order backlog from automakers such as BYD Auto (BYD) and Dongfeng Motor Corporation (DFM). Most of the revenue will be recognised after the vehicles are shipped out, potentially 12-18 months after the contract signing. Thus, we expect to see meaningful revenue contribution (of 6-11%) from Apollo in 2023-24.
- Gradual recovery in advertising revenue. Baidu has been proactively restructuring and has reduced its reliance on the advertising business in recent years. The advertising business’ contribution to total revenue decreased from 68.0% in 2019 to 61.8% in 2021. In the medium to longer term, we foresee 5% growth in advertising revenue with further monetisation driven by enriched content and value creation for its users, but are cautious due to market share loss. We forecast core online marketing services growth of -5%/10% yoy for Baidu in 2022/2023 but with sustained operating margin of as high as 40%.
- We use SOTP methodology to derive our target price of HK$151.00, implying 1.8x 2023F PS, 17x 2023F PE and 0.7x PEG ratio. We forecast revenue growth of 18% CAGR and non-GAAP operating margin of 16.5-19.8% in 2023-26, to reflect increasing operating efficiency across all business units and improved economies of scale, leading to an EPS CAGR of 26%.