The IPO market in 2018 has done well, but Chinese company iQIYI Inc (NASDAQ:IQ) flopped right out of the gate. MarketWatch reports that iQIYI, often described as a Chinese Netflix (NASDAQ:NFLX), raised $2.25 billion at a $12.7 billion valuation. But after initially pricing on Friday at $18, the share value plunged to $15.55 by the end of trading.
There is no denying that iQIYI has some major concerns such as its lack of profitability and concerns about piracy. But I suspect a major reason behind this poor debut is because of American disinterest in Chinese companies, especially given President Trump’s recent words and actions towards the country. The Chinese Netflix may not be as successful as the American Netflix, but iQIYI at this lower price point could be a solid investment for those who think Netflix is currently overvalued. Here are some of the most important things to know about iQIYI.
The Chinese Market
Like Netflix, iQIYI offers online streaming shows to subscribers. As iQIYI declares in its SEC report, it boasts over 60 million subscribing members as of February 28, 2018 who spend an average of 1.7 hours per day watching content. Also like Netflix, iQIYI has been steadily working on offering its own original content as they understand that is the best path towards keeping paying subscribers.
As a result, iQIYI has seen its revenue rise from 5.3 billion RMB in 2015 to 17.4 billion RMB ($2.7 billion) by 2017. In that same period, net losses rose from 2.5 billion RMB to 3.7 billion RMB ($574 million). While the increasing net losses are a concern, the example of Netflix should show that iQIYI can thrive as long as it focuses on growth. Given the potential of streaming in China, there is no doubt that iQIYI could grow a great deal.
But there are some differences compared to Netflix. First, iQIYI does offer advertising like Hulu. Advertising has constantly made up the greatest portion of the company’s revenue, but its percentage of revenue has declined from 64 percent in 2015 to 47 percent in 2017. Paying subscribers are becoming more important to the company, showing just how iQIYI is following the Netflix model.
The second difference is that iQIYI should be more concerned than Netflix about the threat of piracy. iQIYI acknowledges this threat as it states that “we may have difficulty addressing the threats to our business associated with piracy of our copyrighted content, particularly our original content.” And the company has been able to survive and reach its present state despite the well-known prevalence of piracy in China.
But investors cannot assume that as the Chinese grow wealthier, they will turn away from piracy and towards video streaming. A 2014 study from Harvard of piracy’s destructive effects on creative industries in China found “that wealthy and educated Chinese consume as much or more pirated content than the poor and less educated.” iQIYI producing original content is a good counter, but it will have to struggle hard to fight pirates and increase its consumer base.
iQIYI and Baidu
Perhaps the most important thing to understand about iQIYI is its relationship with Chinese tech giant Baidu Inc (NASDAQ:BIDU). News reports on this IPO have frequently called iQIYI a unit of Baidu, and the tech company controls 93 percent of iQIYI’s voting rights even after this IPO. But Baidu clearly intends to grant iQIYI a measure of independence while it focuses on its core business.
The result could be the best of both worlds for iQIYI. Baidu has lent iQIYI financial support and its technology, such as using artificial intelligence on its website and big data analytics to help connect subscribers with shows they may be interested in. Meanwhile, iQIYI will work on establishing support structures of their own which will let them quickly respond to new developments.
It should be noted that iQIYI is not the only video streamer with support from a Chinese tech giant. The company’s biggest competitor is Tencent Video, which is connected with WeChat. But given the size and potential of the Chinese video streaming market, iQIYI should not be seriously worried about competition and should be grateful for having Baidu to help give it a boost.
An Overlooked Gem
Most investors have never heard of iQIYI and will thus naturally gravitate towards American tech IPOs like Spotify. Others will worry about whether investing in a Chinese tech company is a good idea given the tensions between the United States and China. But investor should realize that iQIYI is an overlooked gem which is set to take advantage of a growing and important market. Yes, there are risks in investing in a Chinese company. But there are also risks in investing in Netflix at its current value, and iQIYI is worth significantly less. While the share price will likely continue to remain unstable and low for some time, value investors should see a golden opportunity to get an overlooked stock for cheap.