Why Is Goldman Buying Alibaba And Baidu This Week?

• Shares of Alibaba Group Holding Ltd BABA and Baidu Inc (ADR) BIDU have been declining steadily in 2015 and are down year-to-date by 28 percent and 31 percent, respectively.
• Goldman Sachs’ Piyush Mubayi maintained a Buy rating on both the companies, while reducing the price target for Alibaba from $95 to $94 and for Baidu from $262 to $212.
• Both the companies are poised to benefit from the inclusion of 14 Chinese internet ADRs in the MSCI China Index, Mubayi stated.

Analyst Piyush Mubayi mentioned that the recent underperformance in the shares of companies operating in the Chinese internet segment, including Alibaba and Baidu, has priced in the anticipated softness in the earnings of the segment.

“We remain bullish on the outlook for Alibaba and Baidu ahead of their results,” the analyst added.

Mubayi expects the potential inclusion of 14 Chinese internet ADRs in the MSCI China Index to benefit both Baidu and Alibaba, given their significant weightage. The two companies are also expected to gain from easier y/y comps in 2016 with risk from new tech platforms expected to be minimal.

Alibaba Shares Down, Focus On Continuing Operations

Alibaba is expected to report 2QFY16 GMV of Rmb713bn, representing 28 percent y/y growth, monetization rate of 2.26 percent versus 2.33 percent in the previous quarter, and revenues of Rmb21.6bn, up 28 percent y/y.

Mubayi expects MSCI changes to boost Alibaba’s weightage in two steps, “first to 5.2% and then to 9.0%, on assumptions of a free float inclusion factor of 25% and 45% respectively.” Weaker monetization, tighter regulation and more intense competition could pose some risk in the near future.

Baidu Margins To Be Restricted By Higher SG&A

Baidu is expected to report revenues of Rmb18.5bn, up 37 percent y/y. The company’s higher SG&A, aimed at strengthening its O2O presence, is likely to exert pressure on non-GAAP operating margins, which are expected to contract to 14 percent from 23 percent in 2Q.

“We see Baidu as the 2nd major gainer with the MXCN inclusion as we expect its weight to rise to 4.6%.,” the Goldman Sachs report mentioned.