Uncovering Opportunity In Sohu.com

The analyst estimates the fair value of Sohu.com's businesses, excluding Changyou, at $32. Including cash on Sohu's balance sheet (deconsolidating Changyou's cash), and including the $25.2 a share value of the Changyou stake, Roberts estimate that Sohu.com is currently worth about $57, representing upside of about 30 percent.

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"We contend that Sohu.com is currently significantly undervalued, reflecting what we see as excessive pessimism regarding the company's non-gaming businesses," Roberts wrote in a note.

Roberts suggests two scenarios: "a decomposition of Sohu's ex-Changyou business based on current market values, as well as a ‘what if' sum-of-the-parts valuation that examines Sohu's new growth businesses (Sohu Video, and the search business)."

"Both approaches suggest there is an attractive opportunity available for Sohu shareholders," Roberts highlighted.

Looking Forward

Despite suffering losses since FY2013, the analyst sees opportunities in Sohu Video and the company's search and web segment.

Based on the current market capitalization of Sohu.com, Roberts projects the implied value of the online advertising and other business segments to be about $3.70 per share, a P/S multiple of approximately 0.1x. The analyst said the multiple is "exceedingly low" versus loss-making Chinese internet firms.

"We expect the search business to be a significant value driver going forward, in part due to the integration of Sogou's search engine in Tencent's Weixin (Wechat) app, users of which exceeded 800 million in Q2 FY2016 according to Tencent," Roberts noted.

A significant part of Sohu is its majority-owned subsidiary, Changyou.com, which develops and operates PC and mobile games in China.

"The relationship between the two stocks has historically followed an expected pattern, however that relationship has deteriorated over the past several months, a situation which appears to be creating an opportunity," Roberts highlighted.

Commenting on the Sohu's takeover rumors, Roberts noted that Tencent could buy Sohu.com to acquire Sogou and ultimately apply pressure on rival Baidu Inc (ADR) BIDU. Tencent's increased stake in Sogou suggests that it values the search technology embedded in its apps.

The analyst also suggested Sohu.com could buy back shares, given the $580 million in cash at its disposal.

At time of publication, Sohu.com shares were up 2.87 percent on Thursday, trading at $45.12.

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