by Travis Johnson, Stock Gumshoe | April 10, 2018 9:36 am
A reader asked me about a Motley Fool[1] promo that was running late last week, and it sounds like a pretty spicy one… here’s the part that got my attention:
“Did the “Next Netflix” just raise $2.25 billion in a massive IPO[2] last Thursday?
“I’ll tell you what, I wasn’t missing out on its IPO. As the minutes wound down until its first trade, my finger hovered over my broker’s “buy” button.
“And at the first moment I could, I clicked buy. Then right before the end of the trading day, I took another plunge – making a second buy of the company’s freshly IPO’d shares.”
I figured that if this was David Gardner[3] making such a claim, his acolytes would be all over it and the stock might be up 50% on the force of his enthusiasm… but no, this was from Eric Bleeker, one of the Motley Fool analysts who work on Gardners’ Rule Breakers[4] newsletter, so it’s not even clear whether or not this is a formal recommendation of that growth-focused newsletter.
But still, we do like to uncover a mystery… so what’s the stock?
Here are our pertinent clues…
“The company unveiled a Netflix-like premium video service that exploded from less than 5 million subscribers three years ago to more than 60 million today. That’s already larger than Netflix’s U.S. subscriber base!
“Sales have surged by more than 3X in just the past two years alone.
“Best of all – its market is booming. Right now, the company commands less than 1% a market that’s predicted to surge to $440 billion in the coming years.”
The ad is for the Rule Breakers newsletter ($49/yr), though the pitch is focused on their special “2018 IPO Boom Report,” and Bleeker indicates that this report will talk up this secret stock as well as two actual David Gardner recommendations from the recent IPO boom… but other than that, those are the clues.
So what’s our answer? Well, thankfully once you narrow it down by IPO amount and day, it becomes fairly easy… so we didn’t even have to move the snowblower to haul the Thinkolator out of the garage (yes, it’s snowing here in the wilds of Western MA this morning… and no, after April Fool’s Day, snow is no longer pretty or romantic). We can tell you quite quickly that this is the Chinese “Netflix Wannabe” that I wrote about to the Irregulars[5] late last week: iQiyi (IQ)[6].
iQiyi is a spinoff of Chinese search engine giant (and all-around Alphabet copycat) Baidu (BIDU)[7], Baidu still retains a controlling stake of 70% or so but has spun part of the company out to new investors… probably largely because, not unlike Netflix, it’s a business that devours cash and needs still more capital to create more video content, and that makes Baidu’s balance sheet look less impressive. I guess you can say that they hold “less than 1 percent” of the market if you’re talking about video and television in general and if you believe that the near-term market is something like $440 billion, which is not much more than a guesstimate, but they had $2.5 billion in revenue last year and are fairly large.
And yes, that need for cash is exacerbated by the fact that iQiyi has lots of small competitors and two really huge ones, all of whom are eying that large and fast-growing Chinese streaming video market (both paid and free video, though IQ and the other competitors mostly operate on a “freemium” model, offering a lot for free but holding back “premium” content for paid subscribers). All of them are trying to attract subscribers with unique content, including both licensed content from overseas and homemade shows of increasing quality… again, clearly inspired by Netflix.
They arguably have a lead position, with a lot of hit shows (and a collaboration with Netflix)… but even if they have a lead, it’s certainly not insurmountable. The race among the top three is tight — and the other two, Youku Tudou (owned by Alibaba for years) and Tencent Video, are able competitors who are far larger and not at all short on cash or connections. Perhaps IQ will do well with a separate and focused management team, as sometimes happens with spinoffs[8], but that, of course, is far from guaranteed — and they will likely still rely on their parent Baidu to generate traffic and help with new customer acquisition.
I opted to take a small, speculative position (both options[9] and equity) last week, mostly because I think there’s potential that the IPO was overlooked because of the recent weakness in big China[10] tech stocks (and, really, tech stocks in general), and because the potential for growth is very high… though the potential for failure is also quite high, particularly given the high level of competition. Here’s a small excerpt of what I wrote to the Irregulars about this speculation last week:
“Right now they trade at about 4X 2017 sales, which looks pretty cheap compared to Netflix (NFLX at 11X sales)… but just about everything looks cheap compared to Netflix, and NFLX also traded at well under 4X sales for much of its life before 2016. That’s a much cheaper valuation than the Chinese internet giants trade at, but that’s because IQ is nowhere near being profitable and Tencent, Baidu, Alibaba and the rest all have strong and growing profits in their core businesses.
“I like that the IPO came at an awful time in the markets, and didn’t generate a lot of attention despite the relatively large size (IQ is a $10+ billion company now, and raised more than $2 billion), and I think there’s a decent chance that any return to ‘normalcy’ in Chinese stocks could give IQ a chance to surge above $20 in fairly short order (like, six months or so)… and, more importantly, that their focus now that they have a life separate from Baidu will give them a chance to stand out from the crowded trio that leads the growing Chinese premium video market. They claim to have a strong competitive position with the most popular content — 42 of the top 50 titles, 6 of the top 10 drama series, and 5 of the top ten variety shows — but, of course, there’s a downside to being “hit driven” if you hit a dry spell in your hit-making machinery.
“So this is a ‘story’ speculation, but it comes with established revenue growth… it’s just that competition and the fairly young status of this industry in China means we won’t know for a while whether or not one of the three leaders really ‘wins,’ and there’s certainly the possibility that three huge competitors in this space means profitability will be elusive for a long time as they all fight for market share….
“If you’re interested in researching this one yourself, someone posted the slides from their pre-IPO “road show” presentation here[11], and you can see all of the detailed info in their prospectus (F-1) and other SEC filings here[12]. And on the “cautious” side here’s a piece from Bloomberg[13] about the tough competition and the weak IPO, and a contrary opinion from a Motley Fool writer[14], for a bit of perspective (the Fool is far from a monolith, of course, and a different author also has a bullish note here[15]).”
And I’m clearly “talking my book” here, since I own this stock, so I will extend the trading moratorium — I won’t trade in iQiyi shares (or any of the other stocks mentioned above) for at least a week.
This is not a slam-dunk of a stock (those are few and far between, of course, if they exist at all), but sometimes something as simple as huge top-line growth is enough to get me to make a small speculation… this is a “busted IPO” in many ways, with a share price that has never held the $18 at which they sold stock to the public just under two weeks ago, so it’s a bit contrarian, but that definitely does NOT make it a value stock.
And, of course, it’s your money — so it’s not what I think that counts, it’s what you think… interested in trying to ride the growth of Netflix-like services in China? Wary of the valuation or the competition? Let us know with a comment below.
Disclosure: I own shares and/or call options on Alibaba, Amazon, and iQiyi, as well as shares of major Tencent investor Naspers. I will not trade in any of those stocks for a week, per Stock Gumshoe’s (extended for this article) trading rules.
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I read the Fool’s newsletter and lost a lot of money investing in their picks. I certainly wouldn’t give them another chance. I imagine many others have “enjoyed” similar results.
I don’t know Saint Stephen. If I lose with the Fool’s picks, I blame myself for not diversifying enough or trading too much. Their flagship, Stock Advisor, has tripled the market since its inception early this century. Best –
You right. You just don’t buy with Fool’s recommendation. One should verify and buy only if you like it. This particular stock “IQ” I bought because I saw quite a few recommendations by others. And the most important thing is its moving up and I am watching it.
I believe those big winners were bought some time ago and their gains are still being reflected by the past glory.
How are they doingwith the current recs.?
Not all their picks are necessarily winners but some are. You also have to follow each stock every day. Some go up a lot and then drop a lot so you have to be on your toes.
I used to subscribe to the Fools, and only one small stock. Almost all of the these recommendations well known and overvalued stocks, and the only one that I missed was NYT when it was rec’d at 19 and got to 22??
They rec’d that you hold expensive stocks for 3-5 years on the assumptions that these stocks, are expensive, but have a lot of life before them. Those are powerful assumptions… same robut conditions as today for the next 3-5 years… Too risky.
it takes time to grow… dollar cost avg… if your pick does 6 out of 10 then its good
I did by $IQ Monday morning. Seems to be doing ok up about a $1.00 today
Based on historical research – averages of IPOs ok – what year do they start paying dividends? If you have the data, average them all, there’s an exact year these IPOs will start…? You can get fancier and fancier with the minutae that generate that year, but just generally is fine….
(And of course only about 1/3 of all companies that enter the public market EVER pay a dividend. If you forget anything, don’t let it be this; you stretch out everywhere, ie grab every IPO, this lonesome fact will take you waaaay down.)
IPOs rarely start out paying dividends, unless they happen to be income-focused companies (REITs, MLPs, etc.) — the typical IPO that I think of as an IPO that catches the market’s interest is a growth company that is coming to the public markets to sell part of itself to help finance the next stage of that growth. Even if they are profitable, as some are, they are rarely sustainably or predictably profitable to the extent that they’re ready to pay a steady and growing dividend.
I will be quite surprised if IQ ever pays a dividend. They aren’t profitable and will not likely be profitable in the next couple years. Dividends should only be paid by companies that are sustainably profitable and can commit to paying a rational amount of their income out to shareholders without harming the business.
IPOs are neither good nor bad, as a rule, I like to consider them individually. There are a few different reports on “average” IPOs over the years, and my guess from reading a few of those is that perhaps 15-25% of companies are profitable when they go public, though that number is skewed down by the large number of smaller IPOs among tech and biotech companies (biotech IPOs, particularly, are never profitable since they’re usually years from even having revenue or a product)
Among IPOs this is certainly not a particularly “safe” one, nor one for dividend-focused investors, it’s a bet on growth.
“IPOs rarely start out paying dividends, unless they happen to be income-focused companies (REITs, MLPs, etc.)iscussion”
Thanks for that reminder.
“I will be quite surprised if IQ ever pays a dividend.”
Very interesting.
“…my guess…perhaps 15-25% of companies are profitable when they go public.”
Very interesting and thank you.
Besides this is a growth stock. if anybody wants for income there are many others
Dear Travis,
This question pertains to other China-based firms, not really IQ, yet. There is talk in China about allowing some Chinese firms, notably tech companies, to also list in China as Chinese Depository Receipts, similar to American Depository Receipts (ADR), the form in which BABA and other Chinese firms at available to US investors.
My questions are: does the performance of a share as an ADR in one market (e.g., as NASDAQ, DOW in the US) have any relationship to how the share does in its home country market? For example, if TESCO does well in the FTSE, does it mean it does well in the US market (or other markets where it is listed)?
With economies being inter-related, it should mean that if shares go up or down in one market, then it should similarly go up or down in the other market(s). At the same time, I understand that investor sentiments are different in different markets, and regulatory controls and information are different, too, meaning that a firm’s shares might not be in the same direction in other markets.
Thanks.
Generally, for large companies in open markets, the differences in value are arbitraged out pretty quickly. That assumes, however, that there is flexibility for funds to flow in and out of the market — and that’s not always true in the domestic Chinese markets. You can sell short on the FTSE and buy in NY to gradually “force” Tesco to trade at a similar price in both markets, particularly because you can even do so without taking any overnight risk because the markets are both open at the same time, but I don’t know how flexible China is at allowing prices to be arbitraged out… there’s so much capital in China that has no easy way out of the country that it could be impacted by that, but generally the Honk Kong-listed Chinese stocks will trade quite closely to their US ADRs.
So the short answer is, “I don’t know” when it comes to the domestic stock markets in China — but generally, big companies in open markets get their values arbitraged fairly quickly.
What the heck happened on 1/30/17. Spike up from 0.175 to $15.50? Unbelievable. Something is really fish here.
With IQ, you mean? iQiyi is a division spun out (partially) from Baidu, it didn’t really exist as a separate company or trade before March 29th of this year. Perhaps there’s some old data with some other company that had that ticker previously?
Fool hooked me on their Rule Breakers pitch back in January 2017. I had just retired after 35 years working for the federal government. Unfortunately, I screwed around and didn’t focus on the stock market much at all in 2017. Not sure I was really aware that it had done as well as it had, though I did know the market was moving up. I resolved to take a more active involvement this year. Of course, the market has been somewhat disappointing so far this year.
Looking back on all the recommendations Rule Breakers made just in 2017, it appears to me they did pretty darn well. Of course, I guess you could say everybody did fairly well in 2017. Hopefully, they’ll do just as well this year, but too soon to tell, especially the way the market has been doing.
The thing is I haven’t seen Rule Breakers even mention iQiyi as of yet. Seems funny that they would be teasing IQ in a Rule Breakers pitch without even mentioning the stock to their actual subscribers. Not sure what to think about that.
The Motely Fool has a disclosure policy and it doesn’t seem like they are recommending it. This is what they wrote at the foot of the article you linked to
“The Motley Fool owns shares of and recommends Baidu, Netflix, and Tencent Holdings. The Motley Fool has a disclosure policy.”
Good point, at least as of April 4 when their most recent free article on the stock was published. They didn’t indicate that this was specifically a newsletter recommendation, just that an analyst (the one who wrote the letter) had rushed to buy it.
Fool.com response posted today (04/12/2018): https://www.fool.com/investing/2018/04/12/iqiyi-stock-is-no-longer-a-broken-ipo.aspx
anybody out there have an idea the name of the company and ticker symbol for the magic Chip that is supposed to be 50 times faster than the regular chips made in the past years