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2 search engines, 2 different outcomes

Posted by iTech - 2005-10-10

Wall Street has narrated a strange tale of two search engines: One was the best of stocks and the other, the worst of stocks.
On one hand, there's Google, the runaway success story for investors that has soared 268% since going public about a year ago. (Related item: Mystery surrounds Google)

In its short life as a public company, Google's value has mushroomed to $87.4 billion, which is more valuable than Hewlett-Packard, Time Warner, UPS, Dell, Home Depot or eBay, according to data from Capital IQ. It's the main reason the USA TODAY Internet 50 e-Consumer 25 index is up 8.1% this year.

Contrast that storybook debut with the rocky beginnings of Baidu, which many on Wall Street called the "Google of China." This Chinese search engine rocketed 354% in its first day back in August. But it's been a bloodbath since. Shares have lost about half their value.

The oddly contrasting reactions to Google and Baidu highlight how schizophrenic the stock market can be assigning value to newly public companies in emerging industries.

"People get crazy, and they lose sight of reality," says Ben Holmes, principal of Protege Funds.

How can two stocks get such different handling by investors?

Expectations were different at the start. Google's first-day pop of 18% was a big win for early investors, but it's a far cry from Baidu's more than quadrupling, says Francis Gaskins of IPOdesktop.com.

Google's first-day gain was muted by a large dose of skepticism by investors, largely because it was the first pure-play search engine to trade and faced fierce rivals such as Yahoo and Microsoft.

IPO investors like to compare a new stock's valuation to similar companies, but Google had no pure-play peers, Gaskins says. So Google got a first-day valuation on par with Yahoo. Its market value is about 80% higher than Yahoo's.

But when Baidu went public, investors thought they had a "comp" in Google, which had a market value at the time of about $82 billion. So investors figured if Google can be worth that much in the USA, there's no telling what Baidu could be worth in the fast-growing economy of China, Gaskins says.

Behind-the-scenes trading factors. The different sizes of the IPOs and the types of investors they attracted caused big differences in the early trading.

Even after cutting the number of shares it was offering at the last minute, Google sold 19.6 million shares, ranking it the 21st-largest domestic IPO in terms of dollars raised, Renaissance Capital says.

Baidu's offering of 4 million shares was microscopic compared with Google's. With so few shares outstanding, price moves were exaggerated as individual investors piled on at any price, Holmes says. But the stock went into free-fall after the price got so high that large institutions were unwilling to pay the inflated price, he says.

Business momentum. Google continues to defy critics of its stock price largely because its earnings have been better than expected. Shortly after going public, Google reported 2004 net income of $399 million, up 278% from 2003.

Baidu reported strong 626% earnings growth for the second quarter, the first quarter since going public. Still, investors were unimpressed by the company's forecast in August that its revenue in the third quarter would be up 19% from the second quarter, says Paul Bard, analyst at Renaissance.

Further unnerving investors: Two investment banks that brought Baidu public, Goldman Sachs and Piper Jaffray, downgraded it to underperform in September.

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