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1、37.00-7.6Bloomberg SOHU USCompany reportTelecoms, Media & TechnologyInternetEquity ChinaabcGlobal ResearchUnderweight (V)Target price (USD)Share price (USD)Forecast dividend yield (%)Potential return (%)40.030.0S (SOHU US)Initiate UW(V): Cheap but not cheap enoughNote: Potential return equals the pe
2、rcentagedifference between the current share price andthe target price, plus the forecast dividend yieldDec 2011 a 2012 e 2013 e Stock looks cheap but estimates at risk from ongoinginvestment phaseHSBC EPSHSBC PEPerformanceAbsolute (%)Relative (%)4.209.51M-0.30.82.3916.73M2.15.23.1212.812M-32.3-20.0
3、 Aggressive moves to close gap with peers in video andsearch mean continued spending; Street sees marginrecovery next year whereas we see flat marginsNote: (V) = volatile (please see disclosure appendix)13 November 2012Chi Tsang*, CFAAnalystThe Hongkong and Shanghai BankingCorporation Limited+852 28
4、22 .hkTucker Grinnan*Regional Head of Telecoms ResearchThe Hongkong and Shanghai BankingCorporation Limited+852 .hkPlease also refer to our accompanyinginitiation report on Changyou (InitiateOW(V): Cash cow with web gamekicker, 13 November)This report replaces the one of thesame title and date to co
5、rrect theoperating profit forecasts for 2013 and2014.View HSBC Global Research at:http:/*Employed by a non-US affiliate ofHSBC Securities (USA) Inc, and is notregistered/qualified pursuant to FINRAregulationsIssuer of report: The Hongkong andShanghai BankingCorporation LimitedDisclaimer &Disclosures
6、This report must be readwith the disclosures andthe analyst certifications inthe Disclosure appendix,and with the Disclaimer,which forms part of it Initiate at Underweight (V) with a USD37 target priceRisks to estimates outweigh value. We acknowledge that Sohu looks inexpensive withnearly 50% of its
7、 value in adjusted net cash. However, this substantial net cash position hasnot prevented a de-rating in the past few years, with the shares historical forward PE atjust 13x. Furthermore, its 5-year historical PEG is only 0.68. We believe this reflects theloss of momentum in the companys core portal
8、 business and margin deterioration onhigher costs. The stock is trading at 13x our 2013e EPS with a PEG of 0.73 on our forecast18% EPS CAGR from 2013-16.Investment spending threatens earnings. Sohu has adopted an aggressive strategy to tryto close the gap with its peers in online video and search, a
9、s well as position itself inmobile. In video, while Sohu is ranked second in daily unique visitors, its revenue shouldbe just a fifth of Youkus (YOKU US, USD18.87, N(V), TP USD20) this year. In search,while Sogou (Sohus browser and search engine) has an 8% traffic share, its search revenueis only eq
10、ual to 4% of Baidus (BIDU US, USD103.73, OW(V), TP USD140). Addressingthese gaps requires continued high headcount growth, product development and sellingcosts. We expect surging expenses to lower operating margins by 13ppts in 2012 and seelimited operating leverage in 2013.Below consensus for 2013e
11、 and 2014e. We expect operating margins of 21.0% in 2013,compared to consensus of 22.5%. We expect 30% headcount growth next year, compared to50% growth for 2011 and 2012. We forecast 21.6% margins in 2014, versus the Street at25.1%. Our adjusted EPS estimate is 10% and 19% below consensus for 2013
12、and 2014.Initiate with an UW(V) rating and a USD37 target price. We value Internet stocks usingPEG as we believe it best captures earnings growth. We apply the companys 5-year meanPEG of 0.68 to our 2013e earnings per share of USD3.12 and CAGR of 18% for 2013-16e.Better-than-expected operating lever
13、age is the key upside risk to our rating. The nextcatalyst will be when Sina (SINA US, USD53.42, UW(V), TP USD54) reports on 15November and provides comments on advertising.Index SSE COMPOSITE IDX Enterprise value (USDm) 740Index level 2,069 Free float (%) 100RIC SOHU.O Market cap (USDm) 1,522Source
14、: HSBCSource: HSBCS (SOHU US)Internet13 November 2012Financials & valuationFinancial statementsValuation dataabcYear to12/2011a12/2012e12/2013e12/2014eYear to12/2011a12/2012e12/2013e12/2014eProfit & loss summary (USDm)EV/sales0.90.70.40.2RevenueEBITDADepreciation & amortisationOperating profit/EBITN
15、et interestPBT852309-55254162751,057263-45218262471,254322-59263272941,465388-7231633352EV/EBITDAEV/ICPE*P/NAVFCF yield (%)Dividend yield (%)2.61.59.61.49.10.02.91.016.91.25.30.01.70.612.90.96.50.00.70.310.00.78.50.0HSBC PBTTaxationNet profitHSBC net profit275-47163163247-757878294-798585352-8711311
16、3Note: * = Based on HSBC EPS (fully diluted)Price relativeCash flow summary (USDm)123123Cash flow from operationsCapexCash flow from investmentDividendsChange in net debtFCF equity370-170-3060-54139353-165-2030-5080395-188-1880-21399467-220-2200-254131103836343103836343Balance sheet summary (USDm)In
17、tangible fixed assetsTangible fixed assets0663097801,17201,389232010S Inc.2011Rel to SSE COMPOSITE INDEX2012232013Current assetsCash & othersTotal assetsOperating liabilitiesGross debtNet debtShareholders fundsInvested capital9707331,6333570-7331,0665441,1937832,1716530-7831,3137361,4569962,6287330-
18、9961,6898991,7631,2493,1528190-1,2492,1281,084Source: HSBCNote: price at close of 12 Nov 2012Ratio, growth and per share analysisYear to12/2011a12/2012e12/2013e12/2014eY-o-y % changeRevenueEBITDAOperating profitPBTHSBC EPS39.122.810.317.48.624.1-15.0-14.2-10.1-43.118.622.520.718.830.516.820.519.919.
19、929.5Ratios (%)Revenue/IC (x)ROICROEROAEBITDA marginOperating profit margin2.055.717.516.236.329.81.724.06.69.024.920.61.523.65.79.025.721.01.523.95.99.226.521.6EBITDA/net interest (x)Net debt/equityNet debt/EBITDA (x)-57.4-2.4-51.5-3.0-52.5-3.1-53.5-3.2CF from operations/net debtPer share data (USD
20、)EPS reported (fully diluted)HSBC EPS (fully diluted)DPSNAV4.204.200.0027.892.022.390.0034.352.203.120.0044.202.924.040.0055.692S (SOHU US)Internet13 November 2012Investment summary Cheap but not good value yet Earnings risk from spending to expand search and video; gamingbusiness is steady but inve
21、stors can buy it separately Initiate coverage with UW(V) rating and a target price of USD37abcDiversified but under-scaleSohus three key businesses are: 1) the SohuInternet portal; 2) Changyou online gaming, and3) Sogou, which leverages a browser and Pinyinsoftware to market search engine advertisin
22、g.We expect Sohu to generate USD1bn in revenuethis year, with USD238m of adjusted operatingprofits. Non-GAAP net income attributable toS on a fully diluted basis is estimated tocome to only USD95m with a 9% net margin.This is mainly a function of two factors. Firstly,all of its profits come from Cha
23、ngyou (CYOUCheap at face valueAbout 43% of market cap is net cashWe acknowledge that Sohu looks undervalued.The company has a market capitalization ofUSD1.5bn and net cash and equivalents ofUSD754m. Of this cash figure, its online gamesubsidiary, Changyou, contributes USD443m. Wenote that since Sohu
24、 owns 67% of Changyou, it isonly entitled to USD297m of its cash. Thus, on apro-rata basis, Sohus net cash position at the endof September was USD660m. This representsUSD17 per share or 43% of Sohus market cap.US, OW(V), TP HKD31). But it only owns 67%of the company. Secondly, online video and itsSo
25、gou search business are currently losing moneybecause they are under-scale and remain inNet cash vs. market cap (USD)Company Share priceNetcash/shareNewcash/sharepriceinvestment mode.Sohu vs. Baidu and YoukuNeteasePerfect WorldGiant Interactive55.1611.595.242.684.940.654.9%42.6%12.4%Revenue (USDm)20
26、12eMultipleShanda3.580.277.6%YoukuS253544.7Source: Bloomberg, company reports, share price based on November 7, 2012, net cash asof 31 December 2011.BaiduSogouSource: HSBC estimates3,54012229.0Fully valued based onhistorical PESohu currently trades at a PE of 17x 2012e EPSand 13x 2013e EPS. We note
27、Sohus averageforward PE has been 13.6x and its PEG has been0.68 over the previous five years. Moreover, Sohu39-Nov-0730-Mar-07 30-Mar-08 30-Mar-09 30-Mar-10 30-Mar-11 30-Mar-129-Nov-08 9-Nov-09 9-Nov-10 9-Nov-11 9-Nov-12S (SOHU US)Internet13 November 2012Sohu historical 1-year forward PE403530252015
28、1050Source: Bloomberghas had a very high cash balance over the pastseveral years. It had USD17 per share of net cashin 2010 and USD19 per share in 2011. This hasnot prevented the stock from getting continuallyde-rated.High spending to continueMargins have been under pressure, as managementhas steppe
29、d up investment in each of Sohusbusiness segments. We expect spending to remainhigh as the company continues to strengthen inonline video, search and online gaming.Sohus profitability has declined consistentlysince 2009, with its adjusted gross margin downfrom 76.1% to an estimated 64% in 2012e. Its
30、adjusted operating margin has declined from 43%in 2000 to an expected 21% in 2012e.Its gross margin has declined due to thesignificant investments made in online videocontent (both rising costs and acceleratedamortization), as well as rising bandwidth costs inonline gaming. While its search gross ma
31、rgin hasexpanded during this period, it only contributes8% of gross profits.Operating profitability has been severely impactedby sizable increases in product developmentspending (engineering headcount and wages) and,recently, increased sales and marketingexpenditures. Total employee headcount increa
32、sed4Sohu historical 5-year PEG21.510.50Source: Bloomberg56% in 2011 and should be up another 50% thisyear. Of particular note, product developmentcosts have risen from USD57m in 2009 to anestimated USD177m this year. This represents a48% CAGR. As a percent of revenue, it hasincreased from 11% in 200
33、9 to an estimated 17%this year. For reference, total revenue grew at a27% CAGR from 2009 to 2012. Sales andmarketing costs grew 52% in 2011 and weestimate 31% this year.Portal under pressure fromweak macro outlookSohus core portal advertising business has beenvery sluggish in recent quarters. It gre
34、w 5% y-o-y in3Q12 after posting four consecutive quarters of y-o-y declines. This represents weakness in its two keycategories, auto (25-30% of revenue) and property(15% of revenue). While the property categorypicked up in 3Q, management continues to take acautious approach to accounting for revenue
35、.We believe continued economic weakness inChina will hurt advertising budgets for 2013.Weak demand is forcing large brand advertisers tofocus on cost cutting, with advertising spend a keyemphasis. We are cautious on the Chinaadvertising market and expect overall growth todecelerate from 23% this yea
36、r to 10% in 2013.abcS (SOHU US)Internet13 November 2012Video: two years away fromprofitsSohus online video business reached the numbertwo spot in China in September in terms of dailyunique visitors. The company has been able todifferentiate itself from the market by offeringmany of the most popular
37、TV dramas.While Sohu has spent a significant amount ofcapital on content to attract a large user base, ithas been less successful in monetizing its traffic.Indeed, we estimate video revenue was onlyUSD23m in 2010 and USD50m in 2011. Incontext, Youku generated USD143m in revenuein 2011, threefold tha
38、t of Sohu. In terms ofmonthly unique viewers, Youku was only 1.4xbigger than Sohu by December 2011.In 1Q, management restructured its online videosales force. Sohu set up a dedicated selling team,hiring 150 new sales people. We estimate Sohusonline video business will generate USD54m inrevenue this
39、year but lose around USD80m this year.Management is aggressively expanding its videobusiness and we expect its content budget to increaseby 40% from an estimated USD50m this year toUSD70m in 2013. We do not expect the videobusiness to reach breakeven for another two years.Sogou: profitable in 2014eW
40、e believe Sogou will lose USD4m on revenueof USD129m this year. This business generatedprofits in 4Q11 but management stepped upinvestments in mobile and search related products.We do not expect Sogou to return to profitabilityuntil 2014.Changyou is key value driverChangyou has been able to leverage
41、 a few hitgames into a reliable earnings and cash flowgenerator for Sohu. Changyou represents 72% ofSohus gross profits and over 100% of itsoperating profits.Changyou has 5.8% market share in onlinegaming in China in terms of revenue in 2011.Over 75% of its revenue is from the massivemulti-player on
42、line role playing game(MMORPG) called Tian Long Ba Bu (TLBB)launched in 2007. TLBB is a self-developed gamebased on a classic Chinese novel called “Novel ofthe Demi-gods”. It is one of the most popularMMORPG games in China.Changyou has expanded from the slower growthMMO segment into the fast-growing
43、 web gamessegment. We expect the web/social/mini gamemarket to grow about 40% this year.In May 2011, Changyou acquired control of7Road, a leading developer of web games. 7Roadhas two of the top five web games in Chinacurrently. Its top game is DDTank, a web-basedshooting game. DDTank is the number t
44、hreeranked web game in China and has been exportedto Malaysia, Vietnam and other countries.As a standalone business, Changyou (including itsonline gaming and a small advertising business) hasan 84% gross margin, 58% adjusted operatingmargin and 49% adjusted net margin. Its onlinegaming business cont
45、ributed 63% of Sohus grossprofits in 2011 and is estimated to be 72% in 2012.Changyou trades publiclySohus biggest value driver also trades publicly.Sohu spun out Changyou in 2009, retaining a 67%stake. Its current market cap is USD1.5bn.Investors have the option of owning only thegaming business. O
46、ne issue is liquidity, as it hasan average daily turnover of approximatelyUSD2m. Changyou trades at 5x 2012e and 4x2013e PE, based on our estimates.Earnings riskOur adjusted EPS estimate of USD3.12 for 2013is 10% below consensus of USD3.46. For 2013,we expect operating margins of 21.0%, comparedabc5
47、S (SOHU US)Internet13 November 2012to consensus of 22.5%. We expect 30%headcount growth next year, compared to 50%growth for 2011 and 2012. We expect totalrevenue to increase 19% next year. Total brandadvertising should grow 13%, boosted by videoand its online gaming portal but we expect thecore por
48、tal business to be negatively impacted bya slowdown in display advertising from multi-national companies (MNCs). Video revenue willlikely grow 49%, as the new sales team increasesmonetization. We expect search revenue to grow50% while online games grow 17%.For 2014, our EPS estimate of USD4.04 is 19
49、%below consensus of USD5.00. We expect a 17%increase in revenue, with 13% growth in total brandadvertising grows and 40% growth in search. Weexpect online gaming revenue to increase by 14%.For 2014, we forecast 21.6% margins, versus theStreet at 25.1%. We see 60bps improvement in2014, whereas the St
50、reet expects 190bps.Sohu is in an investment phase, critical tomaximizing the potential of its still-nascent videoand search businesses. We expect total headcountto increase by 30% in 2014. In our model, productdevelopment grows by 58% in 2012e and 21% in2013e. Sales and marketing costs increase by
51、31%in 2012e and 26% in 2014e.Unlikely to unlock sum ofparts valueWe acknowledge that Sohu looks undervalued ona sum-of-the-part basis. We derive a valuationrange of USD55 to USD60 using this approach.When we look at Sohus individual parts, we donot see much debate in valuing its two keycomponents. C
52、hangyou trades publicly and isworth USD23 per share of Sohu. It represents42% of the sum of parts value. Attributable netcash (adjusted for 67% of Changyous net cash) isUSD17 per share or 30% of value. Thus, 70% ofthe sum-of-the-parts value is in Changyou and net6cash. This is USD40, essentially whe
53、re Sohutrades today.The valuation debate centres on the portal, videoand online search. On the portal, we assign arevenue multiple of 2-3x 2013e revenue. This is ata 50% discount to the 6x multiple at which Sinacurrent trades. We argue that without microblogging functionality like Weibo, Sohus porta
54、lbusiness is far less valuable than that of Sina.Further, we are cautious on display brandadvertising for 2013. This yields a range ofUSD10-15 per share or 20 to 25% of total value.For video, we assign a revenue multiple of 2-3x2013e revenue. This is at a 50% discount to thatof Youku Tudou. We argue
55、 that this businessremains in the show me stage in terms of itsability to increase the monetization. Given itssecond position in online video traffic, itgenerated only one third of the revenue of Youkuin 2011. This yields a value of USD4-6 per shareor 8 to 10% of total value.Finally, the other key c
56、omponent is search. Wemark to market the most recent transaction. In 2Q,Sohu repurchased 10.88% of Sogou from Alibabafor USD2m. The implied valuation is USD237mfor Sogou. Given Sohus current 63% stake, thisis worth USD4 per share or 7% of total value.While some investors value Sohu using a sum-of-th
57、e-parts approach, we choose not to because wedo not see management selling its differentbusinesses at significant premiums near term.Thus, we believe the chances of investors actuallycapturing the full sum-of-the-parts valuation arelow. We think investors focusing on a sum-of-the-parts valuation wil
58、l be disappointed.We point to the listing of Changyou as anexample. The company trades at a 4x 2013e PE,compared to Sohus 13x 2013e PE. We do notbelieve it has been a value-accretive exercise forshareholders. 7Road, Changyous web-gameabcS (SOHU US)Internetabc13 November 2012business, will also be go
59、ing public in the nextseveral quarters, according to managementspublic announcement. If Sogous search andbrowser business is able to list then that could bevalue-creating. That said, the business is notprofitable. Further, the dominant search engine,Baidu, has gotten significantly de-rated recentlya
60、nd trades at the same PE multiple as Sohu on2013e earnings. We see little investor appetite foran IPO at a high valuation near term.Initiate at Underweight (V)with USD37 target priceWe initiate coverage of Sohu with an Underweight(V) rating and set a target price of USD37. Weacknowledge the stocks s
61、ignificantunderperformance year-to-date, down 27% whilethe S&P 500 is up 10%. That said, we see fewpositive catalysts near-term. We believe consensusestimates are not fully capturing the higher costsassociated with the companys commitmenttapping the revenue potential in search and video.Our EPS esti
62、mates are 22% and 28% belowconsensus for 2013 and 2014, respectively.We use a consistent PEG approach to determine thetarget prices for all the China Internet stocks in ourcoverage. We believe PEG more accuratelycaptures a companys earnings momentum. ForSohu, we apply the companys five-year historic
63、alPEG of 0.68 to our 2013e adjusted earnings ofUSD3.12 and our three-year earnings CAGR of18%. This yields a target price of USD37, implying-7.6% potential return from the current levels.7S (SOHU US)Internet13 November 2012Business overview Evolution from Internet portal to conglomerate Portal: bran
64、d advertising slowing and video remains under scale Sogou: strong growth but huge gap with leading playerabcEvolution from Internet portalto conglomerateNot the Sohu you knew 10 years agoSince Sohu went public in 2000, it has evolvedfrom an online portal selling mostly displayadvertising to a more d
65、iversified Internetconglomerate. Sohus three key businesses arenow its 1) Sohu Internet portal, 2) Changyouonline gaming business; 3) Sogou, whichleverages a browser and Pinyin software to marketsearch engine advertising.Essentially 100% of the companys revenue andprofits were from brand advertising
66、 in 2000. Overthe past several years, that mix has changed andSohu financials snapshot (1/2)online advertising should only represent 39% ofrevenue and 25% of gross profits this year. Onlinegames should contribute 54% of revenue this yearand 72% of gross profits.Listco structureSohu is structured so
67、that the listed company,S, does not own 100% of its two keyoperating businesses, Changyou and Sogou. Inparticular, Sohu spun off 33% of Changyou in anIPO in 2009. In 2010, management sold 32% ofSogou to Alibaba and Sohu CEO Charles Zhang,and distributed options to Sogou management. Asa result, Sohu
68、retained 53% interest in Sogou.(USDm)2003200420052006200720082009201020112012eRevenues:Online advertisingBrand advertisingSearch and otherssubtotalOnline gamesWirelessOthersTotal revenuesGross profitsGross margins246300447805569%461056036111036967%58127102671057269%79139293311348664%1127119422611891
69、2466%169717620251142932275%177918626862-51539276%2121923032752361345274%27963342436522285261272%28812241056958201,05768365%Online advertisingBrand advertisingSearch and othersSubtotalOnline gamesWirelessOthers72%92%76%0%70%28%77%87%78%0%62%26%75%75%75%0%54%62%71%59%69%54%53%58%65%21%63%83%53%27%65%-
70、2%62%93%49%25%66%-19%63%93%42%n/a59%24%56%91%46%48%61%47%59%89%39%28%42%43%42%86%34%-9%Source: Company reports, HSBC estimates8S (SOHU US)Internet13 November 2012Sohu financials snapshot (2/2)abc2003200420052006200720082009201020112012eMIXRevenues:Online advertisingBrand advertisingSearch and others
71、subtotalOnline gamesWirelessOthersTotal revenuesGross profits30%7%37%0%55%9%100%100%45%9%54%0%35%11%100%100%56%12%68%0%25%7%100%100%59%10%68%6%24%1%100%100%59%4%63%22%14%1%100%100%39%2%41%47%12%0%100%100%34%2%36%52%12%0%100%100%35%3%38%53%9%0%100%100%33%7%40%51%6%3%100%100%27%12%39%54%5%2%100%100%On
72、line advertisingBrand advertisingSearch and othersSubtotalOnline gamesWirelessOthers31%9%40%0%56%3%51%12%63%0%33%4%61%13%74%0%20%6%65%9%74%5%20%1%59%1%60%28%11%0%34%0%34%58%8%0%30%0%30%64%7%28%1%29%66%5%0%28%5%33%63%3%1%18%8%25%72%3%0%Source: Company reports, HSBC estimatesIn July of this year, Sohu
73、 repurchased a 10% stakein Sogou from Alibaba, increasing its stake to63%. Sohu consolidates the financials of bothChangyou and Sohu but earnings reflect the non-controlling interests.Last November, Sohu sold its onlineoperations, including brand advertising, search,online gaming and wireless. All
74、the VIEs areprimarily owned by Sohu executives, includingthe CEO and COO of Sohu and the CEO andCOO of Changyou.Sohu VIE exposuregaming portal to Changyou for USD163m in cash.20102011In August, management announced that 7Road,Totals assetsmemo: total consolidated assets204,694 405,8541,187,590 1,633
75、,294the key web-game subsidiary of Changyou, plansto file for an IPO with the US Securities andExchange Commission. Changyou owns 68.5% of7Road and Sohus proportional interest of 7Roadis 43%. Thus, Sohu will have two publicly tradedsubsidiaries in the near future.80% of revenue from VIESohu was inco
76、rporated in Delaware in 1996 and isconsidered a foreign enterprise in China. In ordermemo: % of total consolidated assetsTotal liabilitiesmemo: total consolidated liabilitiesmemo: % of total consolidated liabilitiesNet Revenuememo: total consolidated net revenuesmemo: % of total consolidated net rev
77、enueNet Incomememo: total net income before controllinginterestsmemo: % of total net income beforecontrolling interests17.2%77,520356,96921.7%415,010612,77767.7%21,746198,18411.0%24.8%184,711441,56541.8%708,077852,08783.1%35,862228,34315.7%to comply with restrictions on foreign investmentin and oper
78、ation of value-addedtelecommunications businesses, Sohu establisheda number of variable interest entities (VIEs) inChina. The company has entered contractualarrangements between the VIEs and its ChineseSource: Company reportsIn terms of financial exposure, Sohus VIEs held25% of the companys consolid
79、ated assets andgenerated 83% of its consolidated net revenue. Bycomparison, another leading Internet portal, Sinasubsidiaries to perform a substantial part of its92009-09 2009-11 2010-01 2010-03 2010-05 2010-07 2010-09 2010-11 2011-01 2011-03 2011-05 2011-072011-09 2011-11 2012-01 2012-03 2012-05 20
80、12-07S (SOHU US)Internet13 November 2012(SINA, UW(V), has 10% of its total assets heldat the VIE level.Cash flows driven by gamingTo further illustrate the importance of onlinegaming to Sohu, we highlight cash flow fromoperations (CFFO) in the past few quarters. Thegaming business consistently contr
81、ibutes 60-70%of CFFO. As recently as 4Q11, Sohus non-gaming operations generated 33% of CFFO. Thisfigure declined to 23% in 1Q12 (which actuallyincludes USD30m received from Changyourelated to advance payments relate to the serviceand advertising agreements as part of Changyousacquisition of 17173 f
82、rom Sohu). In 2Q12, Sohusnon-gaming business burned USD33m in CFFO.The non-gaming business contributed 30% ofCFFO in 3Q due to effective working capitalmanagement.Portal: advertisingPortal user trends decliningSohus Internet portal consists of S, (a real estate website) and 17173 (a gameportal, sold
83、 to Changyou as mentioned above).We will focus our discussion on S.S has a user base of 360m, making it thethird largest portal in China by share of monthlypage views (9.7% in September 2012). However,since 2009, Sohus market share has declinedfrom 12% to 9.7% of monthly views (bottomingat 8% last y
84、ear).Advertising customers under pressureSohus portal advertising business is drivenprimarily through its S properties. Thecompany has around 2,600 advertisers, of which afew hundred are important customers. Sohus keyabcSohu CFFO mix (USDm)CFFOChangyouOther businesses4Q1111477371Q127356172Q126383(20
85、)3Q1214410044categories are primarily auto (25-30% of revenue)and property (15% of revenue) and, to a lesserextent, fast moving consumer goods (FMCG),online gaming and IT-related. Like most displayadvertising companies, large advertisers drive theSource: Company reportsNote: 1Q12 figure includes USD
86、30m received from Changyou related to its acquisition of17173 from Sohubusiness, and 50% of Sohus brand revenue isfrom large accounts.Core portal brand advertising represents 70% ofSohus advertising revenue and we estimate itSohu portal market share (as % of monthly page views)13.0%12.0%11.0%10.0%9.
87、0%8.0%7.0%6.0%5.0%Source: IResearch10806040200S (SOHU US)Internet13 November 2012grew 4% in 2011 and expect it to decline 3% in2012e. This business has been under pressure thisyear as weak auto sales and a slow housingmarket have forced those advertisers to reducespending. In 3Q, property advertisin
88、g reboundedstrongly but its unclear if that is sustainable.Advertising from the property category grew 70%in 2011. Due to lengthening DSOs (days salesoutstanding) this year, management changed theaccounting method for its property customers atthe beginning of the year from an accrual basis toa cash
89、basis. This resulted in a 20% y-o-y declinein property revenue in 1H12. Excluding thischange, property revenue would have been up20% y-o-y in 1H. Property represents 15% ofbrand advertising revenue currently, compared to18-20% in 2011. DSOs improved nicely in 3Q to55 days from 75 days in 2Q.Core por
90、tal to remain sluggish in 4QThere are three parts of the brand advertisingbusiness, consisting of the portal, video, andgaming portal (namely, 17173). For 4Q,management is guiding for brand advertisingrevenue of USD80-82m, representing 3-5% y-o-ygrowth. When we subtract the 17173 revenuerevenue (up
91、2% y-o-y), the core portal business isexpected to grow 3% y-o-y.Margin upliftWe expect the brand advertising gross margin tostabilize from a very low 42% in 2012. Whilecontent costs for online video are declining(discussed below), we expect management tocontinue to spend aggressively in purchasingco
92、ntent. However, the limited growth of coreportal advertising would cap margin expansion.We expect a brand advertising gross margin of47% in 2013 and 48% in 2014.Brand advertising DSOs (days)3Q10 4Q10 1Q11 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12Source: Company reportsabcguidance, the core portal and video busi
93、ness isexpected to grow 5% y-o-y, at the mid-point ofguidance. After subtracting our forecast for videoSohu portal advertising revenues (USD thousands)_ 2011 _ _ 2012 _1Q2Q3Q4Q1Q2Q3QBrand advertisingmemo: QoQ growthmemo: YoY growthmemo: % of advertising revenuememo: videomemo: QoQ growthmemo: YoY gr
94、owthmemo: 17173memo: QoQ growth57,153-4.8%44.6%87.7%4,813-48.7%140.7%7,82267,72818.5%27.4%83.3%9,12089.5%128.0%8,2926.0%76,57213.1%29.6%80.6%16,00075.4%110.0%11,62840.2%77,7361.5%29.4%77.2%20,06725.4%113.9%12,4136.7%60,968-21.6%6.7%73.8%9,145-54.4%90.0%8,170-34.0%69,31213.7%2.3%70.7%10,39713.7%14.0%
95、9,09611.3%77,87412.4%1.7%68.8%13,76032.3%-14.0%12,75640.2%memo: YoY growth4.0%9.7%9.7%memo: portalmemo: QoQ growthmemo: YoY growth52,3403.3%39.5%50,316-3.9%2.3%48,944-2.7%-4.9%45,256-7.5%-10.7%43,653-3.5%-16.6%49,81914.1%-1.0%51,3913.2%5.0%Source: Company reports, HSBC11100500TotalS (SOHU US)Interne
96、t13 November 2012Sohu video: robust traffic but limitedmonetizationT is well known for its library ofprofessional content, especially popular TVdramas that it shows on an exclusive basis (e.g.,“Country Love Serenade”). Its video libraryincludes 26,000 episodes of TV series and 1,900films. It is also
97、 known for original programming(e.g., a talent show called “Up! Juniors”).T also offers paid programming viapartnerships with Fox, Warner Brothers, Sony,Lionsgate and Paramount.Average daily Sohu video views (millions)150reports that in 3Q, it recorded 122m average dailyvideo views, up 15% y-o-y. Ma
98、nagement reportedthat 30% of the videos viewed were usergenerated content (UGC), up from 27% a yearago. TV drama and movies remained at 26% ofthe average daily video views.This data suggests that non-TV dramas aregaining popularity. This is positive since theoriginal is cheaper to develop (UGC is fr
99、ee) thanTV dramas. On the other hand, the Sohu hasinvested USD80m in purchasing the most popularTV shows in China over the past few years.While traffic has continued to increase , the issue has been monetization andcost of content acquisition. On monetization,Sohus video business only generated USD2
100、3m inrevenue in 2010 and USD50m in 2011. Youku,the leading online video provider in China,generated net revenue of USD59m in 2010 andabc3Q11News/entertainment new sTV drama and movieU GCOthers3Q12USD143m in 2011. Thus, despite being thesecond largest player, its revenue is just 35% ofthe market lead
101、ers. All in all, despite having highSource: Company reportsiResearch reported that had 215mmonthly unique visitors in September, up 12%y-o-y. In addition, 2,642 videos were viewed ontraffic as a result of having very popularprogramming, Sohu has been unable to maximizethe monetization potential of
102、its platform. Wesuspect there has been cannibalization betweenportal spending and video spending.monthly basis in September, up 22% y-o-y. SohuMonthly Unique Visitors of leading online video websites (millions)3002502001501005002011-09 2011-10 2011-11 2011-12 2012-01 2012-02 2012-03 2012-04 2012-05
103、2012-06 2012-07 2012-08 2012-09YoukuTudouSohuIqiy iQQSource: IResearch12S (SOHU US)Internet13 November 2012In order to address this issue, managementrestructured its sales force in 1Q. Sohu now has adedicated video sales force numbering 150. Forcontext, Youku and Tudou had approximately 200sales peo
104、ple each prior to their merger. Thisrestructuring had a negative impact on revenue inthis year. We estimate video revenue declined14% y-o-y in 3Q12. However, the sales force isbeginning to jumpstart the business and videorevenue is on track to return to growth in 4Q. For2012, we expect video revenue
105、 to grow 8% and toincrease 49% in 2013e.The other key issue with the online video businesshas been escalating content costs. The combinationof a large number of online video players in thespace and the limited supply of hit TV shows drovecontent prices to irrational levels in 2011. Costs topurchase
106、exclusive rights to the most popular TVdramas soared 200% in 2011 y-o-y. Sohu spentabout USD30m on content in 2011 and will spendUSD50m this year. We expect Sohu to spendUSD70m on content in 2013.Content costs have declined this year, due to morerational behaviour in the sector. In March of thisyear
107、, Youku agreed to merge with Tudou. Thiscombination of the top two online video providersshould shift some bidding power back to theservice providers.Earlier this year, Sohu, Baidu (iQiyi) and Tencentagreed to cooperate to bid on the programming.Each partner would pay a third of the cost foragreed-u
108、pon deals. While there have only been afew deals so far, this is evidence of more rationalbehaviour among the online video providers. Thatsaid, we do not put too much emphasis on thispartnership. It is not binding and each partner hastheir own objectives which are to grow share andadvertising revenu
109、e. Nonetheless it does furthershift bargaining power away from the studios andhelps reduce costs.We have already seen evidence that content costsare declining. For example, the most popularshows that were selling for RMB1m per episodeare now being sold for half that level. Indeed,Sohu even had to ta
110、ke a USD15m write-down oncontent that it acquired to reflect declining costs(and over payment).We are constructive on the potential stability ofcontent costs going forward. 2013 content costsfor the industry (reflecting programming that waspurchased this year) should grow 25-30%. Thiswould compare t
111、o 100% increases in 2012.Sogou: growing search butsub-scaleThere are three components to Sogou: 1) pinyin,2) browser, and 3) search.Sogou generated USD37m in revenue in 3Q12, up103% y-o-y. About 74% of the revenue was fromsearch, 21% from the web directory and 5% fromweb games. Stand-alone search an
112、d other revenue(excluding revenue from web games which isallocated to wireless) was USD35m, up 98% y-o-y.Sogou Pinyin is the dominant software in Chinathat enables users to type Chinese characters usingpinyin. Launched in 2006, Sogou Pinyin has beeninstalled in over 70% of the PCs in China and hasan
113、 80% penetration measured in monthly activeusers. In 3Q12, it recorded 190m weekly activeusers, up 17% y-o-y. On a monthly basis, SogouPinyin had 375.8m unique active users inSeptember 2012.In 2008, Sohu launched the Sogou Browser. Interms of user time spent, it ranks #3 with 8%,behind Microsoft Int
114、ernet Explorer at 50% andQihoo 360 at 30%. In September 2012, Sogou had36m average daily users, up 29% y-o-y.S (“search dog”) is Sohus proprietarysearch engine launched in 2004. In 2011, Sogouhad 70m daily average users and has roughly 80mabc13S (SOHU US)Internet13 November 2012currently. In 2Q, Sog
115、ou had 36,000 advertisingcustomers with ARPU of USD701/quarter. Costper click (CPC) increased 50% y-o-y. Customergrowth was 39% y-o-y and ARPU growth was29% y-o-y. The business has 100 advertising salespeople but relies mostly on distributors. Its keyadvertising categories are medical (16%),e-commer
116、ce (11%), travel (7%), gaming (7%) andfranchising (5%).Number of advertisers and ARPU (USD thousands)In terms of profitability, Sogou reported grossmargins of 47% in 2011 and margins are expectedto decline to 44% this year. Margins are underpressure due to higher bandwidth costs and alsohigher traff
117、ic acquisition costs (TAC). Sogou pays40% TAC to its partners for generating traffic. Incomparison, Baidus adjusted gross margins in2Q12 were 72% and TAC was 8%. While weexpect Baidus margins and TAC to increase, thereis a wide gap for Sogou to make up which wouldrequire significant investment and t
118、ime. We expectabc800600400366475543545502623701403020search gross margins to expand from 43% this yearto 46% in 2014, due to higher revenue.Sogou is currently losing money at the operating20001Q11 2Q11 3Q11 4Q11 1Q12 2Q12 3Q12100level, reflecting heavy investment in R&D.Specifically, employees have
119、nearly tripled in thepast 12 months to 1,317 and R&D personnel haveincreased from 353 to 1,082. We expect it to loseNumber of adv ertisersARPUUSD3.7m this year and to return to profitability inSource: Company reportsThe search business has grown rapidly in recentyears. Its market share of search pag
120、e views hasincreased from 1.34% to 4% currently since July2006, according to iResearch. Sohu estimates that ithas 7 to 8% share of search traffic currently. Thebusiness was jumpstarted in 2010 when Sohu sold a32% stake to Alibaba (16%) and to Sohu CEOZhang (16%). It also gave employees options worth
121、15% of the company. In 2010, Sogou revenueincreased 118% to USD19m and it grew a further238% to USD63m in 2011. We are forecastingsearch and other revenue to increase to USD122mthis year and USD182m in 2013.While the revenue growth has been impressive, itshould only be 13% of consolidated revenue th
122、isyear. Indeed, with 8% traffic share, Sohusrevenue share amounts to only 4%. By contrast,Baidu, with its 80% traffic share, should generateUSD3.6bn in revenue this year, according to ourforecasts.142014.ChangyouSteady value creationChangyou is a leading online game company in theMMORPG segment. We
123、rate Changyou Overweight(V) with a USD31 target price.The company had 5.8% revenue share of theonline gaming market in China in 2011, making itthe number four operator. It is 67%-owned bySohu. While best known for its TLBB game,Changyou also expanded into the web game spacein 2001 by acquiring a 68%
124、 interest in 7Road, aleading web game developer.Changyou has reported steady growth over thepast few years. Revenue has grown at a 28%CAGR from 2008 to 2011, while operating profitshave grown at a 26% CAGR. Its gross marginhave been under some pressure, declining from92% in 2008 to 86% in 2011, refl
125、ecting higherbandwidth costs and also an expanded gameportfolio. Operating margins have also declinedS (SOHU US)Internet13 November 2012from 62% to 58%, as significantly increasedproduct development and sales and marketing.As of September, Changyous MMORPGbusiness had 234m registered accounts, up 50
126、% y-o-y. Aggregate PCU was 1.09m, up 17% y-o-y.Aggregate active paying accounts were 2.4m,down 20% y-o-y. ARPU increased 46% y-o-y toRMB319/quarter.7Road is a leader in web game development andcurrently has two of the top five most popular webgames in China. 7Road operates two key games,DDTank launc
127、hed in 2009 and its latest game,Wartune. In 3Q, the 7Road web game businesshad 54m registered accounts, up 15% q-o-q.Aggregate active paying accounts were up 12%q-o-q to 1.74m. ARPU increased 24% q-o-q toRMB62.About 75% of Changyous revenue is from onegame, namely TLBB. TLBB was launched in2007 and
128、the company has been able to continuemonetizing this game by refreshing it withexpansion packs. To date, Changyou has releasedin cash. 17173 is a top game portal for onlinegamers to get information about games. It is also aleading site for online gaming companies toadvertise.As of September, Changyo
129、u had USD343m of netcash, cash equivalents and short-term investments.This amounts to attributable net cash ofUSD113m or USD2 per share. It generatedUSD197m of free cash flow in 2010 andUSD256m in 2011.In August, Changyou declared a one-time specialdividend of USD3.80 per ADS or USD201m. Asa 67% own
130、er of Changyou, Sohu receivedUSD135m.We expect Changyous online game revenue toincrease by 31% in 2012, 17% in 2013 and 14%in 2014. Gross margins, in our model, remain flatat 86% as both web games and MMO games havesimilar margins. Our revenue forecast is 5%higher than consensus for 2013 and 12% hig
131、heron 2014. Our EPS estimates are 6% higher thanthe Street on 2013 and 16% higher on 2014.abc23 expansion packs for TLBB, with an expansionpack released every 3 to 4 months. There will be amajor expansion pack to be launched in 4Q12.Its flagship web-based game, DDTank hasreleased 23 versions to date
132、, a new version every1 to 2 months. It is available on over 60 differentsocial networking sites and game portals in Chinaand abroad. A major new version, DDTank 2, wasreleased in June.In terms of pipeline, the next key game will beBattlefield Online, to be launched in 4Q. This is afirst-person shoot
133、er game developed by ElectronicArts, and distributed by Neowiz. Managementwill also launch two in-house developed webgames in by year-end.In November 2011, Changyou acquired the 17173game portal business from Sohu for USD162.5m152015e2016eS (SOHU US)Internet13 November 2012Financial forecasts Expect
134、ing 18% EPS CAGR and 15% revenue CAGR for 2013-16 Search to contribute 22% of revenues, 16% of gross profit by 2016e Games to remain the dominant profit driver with 65% contributionabcInvestment phase to limit EPSgrowthFrom 2013 to 2016, we expect adjusted EPS toSohu projected financials snapshot (U
135、SDm) (2/2)2012e 2013e 2014eMIXRevenues:grow at an 18% CAGR, as revenue should growby a CAGR of 15%. While this is a reasonablegrowth rate for earnings, the Street has muchhigher forecasts. In particular, consensus has EPSgrowing 45% in 2013, compared to our 31%Online advertisingBrand advertisingSear
136、ch and otherssubtotalOnline gamesWirelessOthersTotal revenues27%12%39%54%5%2%100%26%15%41%53%5%2%100%25%17%43%52%4%1%100%25%20%44%50%4%1%100%24%22%45%50%4%1%100%estimate. We believe continued high investmentwill limit operating leverage.Sohu projected financials snapshot (USDm) (1/2)Gross profitsOnl
137、ine advertisingBrand advertising100%18%100%19%100%18%100%18%100%18%2012e2013e2014e2015e2016eSearch and othersSubtotal8%25%10%28%12%30%14%32%16%34%Revenues:Online advertisingBrand advertising288327369411453Online gamesWirelessOthers72%3%0%69%2%0%68%2%0%66%1%0%65%1%0%Search and otherssubtotalOnline ga
138、mesWirelessOthersTotal revenuesGross profitsGross marginsOnline advertisingBrand advertisingSearch and othersSubtotalOnline gamesWirelessOthersSource: HSBC estimates12241056958201,05768365%42%43%42%86%34%-9%18250966659201,25482866%47%45%46%86%28%14%25562475962201,46596066%48%46%47%86%26%14%334745845
139、65201,6751,09165%48%47%48%85%24%14%41186495768201,9091,24465%49%48%48%85%22%14%Source: HSBC estimatesModest growth in brand advertisingWe expect brand advertising to continue to beunder pressure, growing at an 11% CAGRthrough 2016. In particular, we are cautious on thecore portal business. We expect
140、 core portalrevenue to increase at a 4% CAGR through 2016.The core portal represents 66% of brandadvertising revenue today. We believe it willcontinue to be under pressure from a weakadvertising environment through at least 1H13.The companys key advertising category, auto, issuffering as Japanese au
141、to manufacturers pullback spending due to the Chinese boycott of their16S (SOHU US)Internet13 November 2012cars. Further, its second key category, property,continues to be under pressure from the homepurchase restrictions. While we saw a 3Q pick-upfor this category, it is unclear how sustainable thi
142、strend is. In addition, we expect Tencent tocontinue to gain in the online advertising market,at the expense of portal players including Sohu.Sohu video, in our model, recovers from only a7% growth rate in 2012e due to its sales forcerestructuring to 49% growth in 2013e and 35%2014e. We note that th
143、e online video business alsofaces pressure from a softer online advertisingenvironment in 2013 as MNC advertisers reign inspending in light of weak demand. That said, ithas the potential to gain share with a new salesteam. We forecast a 25% CAGR from 2013 to2016 for this business. In 2016, this busi
144、nessshould generate USD158m in revenue.We expect the 17173 revenue to grow at a 14%CAGR from 2013 to 2016, in line with recent trends.Brand advertising should contribute 24% of totalrevenue and 18% gross profits in our model in2016, consistent with its contribution in 2012.Search to bring in 22% of2
145、016e revenueWe are constructive on the Sogou search businessand expect it to grow at a 31% CAGR from 2013to 2016. We pin our forecasts on customersgrowing at a CAGR of 14% and ARPU CAGR of15%. By 2016, we expect Sogou to have 65,000search advertising customers with an averageannual ARPU of USD5,006.
146、The strong revenue growth should support healthygross margin expansion. In particular, we expectthe search gross margin to rise from 43% in 2012to 48% by 2016.While search should grow rapidly for Sogou, itshould remain a very small business compared toBaidu. To put things in context, we estimateSogo
147、u to have USD213m in revenue by 2016,whereas Baidu should generate nearly USD4bn inrevenue from search this year.Search should contribute 22% of total revenue by2016, compared to 12% in 2012. In terms of grossprofits, search is expected to account for 16% ofthe total, compared with 8% in 2012.Games
148、to remain core driverWe expect Changyou to continue to growsteadily, driven by the continued monetization ofTLBB and exposure to the faster growing web-based gaming segment. Online gaming revenue,in our model, increases at a CAGR of 13% from2012 to 2016. We expect Changyous grossmargin to decline sl
149、ightly from 86% in 2012 to85% in 2016, reflecting higher bandwidth costsand an expanded game portfolio.Online games should contribute 50% of totalrevenue in 2016, down from 54% in 2012. Weforecast gaming to contribute 66% of gross profitsin 2016, compared to 72% in 2012.Costs to remain highWe believ
150、e that it is critical for Sohu to continueto invest in search and video, as its core portaladvertising business remains under pressure. Thiscontinued investment would limit margin growth.In our model, Sohus overall gross marginremains stable at 65-66% and its operating marginremains stable at 21-22%
151、 from 2013 to 2016.We expect lower video content costs to help grossmargins next year. That said, more spending oncontent should dampen margins. The companysbrand advertising gross margins, in our model,will increase from 42% in 2012e to 49% by2016e. We note that its brand advertising grossmargin wa
152、s hurt by a USD15m impairment chargeon video content. We estimate its normalizedbrand advertising gross margin will be 47% for2012. We expect its search gross margin toabc17S (SOHU US)Internet13 November 2012continue to expand due to revenue growth,increasing from 43% in 2012 to 48% in 2016e.Online
153、gaming should experience continued slightgross margin erosion due to higher bandwidth costsWe note that management will increase sales andmarketing expenses by 31% this year, following a52% increase in 2011.Sohu headcount vs. OP marginabcand licensing fees. We see the online gaming grossmargin falli
154、ng from 86% in 2012 to 85% by 2016e.The wireless business (essentially 2G text messagingrevenue) should also continue its pace of marginerosion, down from 34% in 2012 to 22% in 2014e.For 2012, we are in line with the Street at 20.6%1400012000100008000600040002000050%40%30%20%10%0%operating margins.
155、For 2013, we expect operating20082009201020112012emargins of 21.0%, compared to consensus ofHeadcountOperating margins22.5%. We expect 30% headcount growth nextyear, compared to 50% growth for 2011 and 2012.For 2014, we forecast 21.6% margins, versus theStreet at 25.1%. Sohu has grown its employeeba
156、se by 50% in each of the past two years. Weforecast 30% headcount growth in 2013.We estimate product development spending toincrease 58% this year, and we expect it remainhigh, growing at 21% in 2013 and 13% in 2014.As a portion of revenue, it should remain at 17%.HSBC vs. consensusSource: Company r
157、eports, HSBC estimatesWe expect CFFO to increase at a 14% CAGRwhile equity free cash flow should grow at a 13%CAGR from 2013 to 2016. Capex, in our model,grows at a 15% CAGR during this period. Weexpect capex to remain at 15% of total revenue.4Q122012e2013e2014e2015e2016e2012-152013-16CAGRCAGRRevenu
158、eGross Margin %Operating ProfitOperating marginsAdjusted operating marginsAdjusted EPS (USD)28966.0%5920.5%22.0%0.611,05764.6%21820.6%22.3%2.391,25466.0%26321.0%22.5%3.121,46565.6%31621.6%23.0%4.041,67565.1%35421.1%22.6%4.501,90965.1%40321.1%22.6%5.0717%24%15%18%CONSENSUSRevenueGross Margin %Operati
159、ng ProfitOperating marginsAdjusted EPS (USD)28964.8%5819.9%0.651,04864.2%21620.6%2.431,23865.7%27822.5%3.461,43565.2%36025.1%5.00DELTARevenueGross Margin bpsOperating ProfitOperating margins bpsAdjusted EPS0%1.253%0.60-6%1%0.341%0.03-2%1%0.30-5%(1.46)-10%2%0.41-12%(3.53)-19%Source: HSBC estimates, B
160、loomberg18S (SOHU US)Internetabc13 November 2012ConsensusFor 4Q12, we are in line with consensusexpectations for revenue but our USD0.61 EPSestimate is slightly below the consensus estimateof USD0.65. Management is guiding for adjustedEPS of USD0.60 to USD0.65. For 2013 and 2014,we are 1 to 2% highe
161、r than the Street on revenuebut lower profitability lead us to be 10% to 19%lower than consensus for adjusted EPS,respectively. We expect margins to be flat at 21%while consensus expects margins to recover by200bps. For 2014, consensus expects margins toincrease by another 200bps to 25%. We havemarg
162、ins growing slightly to 22%.19S (SOHU US)Internet13 November 2012Valuation Sohu is trading at 17x 2012e EPS and 13x 2013e EPS Sum of the parts yields higher valuation but unlikely to be reached We use a PEG approach to derive our target price of USD37abcValuation cheap at face value13x 2013e PE for
163、18% EPS CAGRSohu currently trades at a 17x 2012e PE and 13x2013e PE. We expect earnings to fall 52% thisyear due to heavy investment and lower margins.Earnings should recover next year and we forecastan earnings CAGR of 18% from 2013 to 2016.Further, we expect the company to have USD17in adjusted pr
164、o-rata net cash per share by year-end2012. This represents 43% of its share price.That said, Sohu has historically been a low multiplestock. According to Bloomberg, its average one-year forward PE is 13x. Further, its historical PEGis 0.68 on 3-year earnings CAGR.We believe the low multiple is due t
165、o thecompanys declining position in the ChinaInternet industry. When we look at portal traffic,it has consistently lost share over the past fewyears. Further, its portal advertising business is atrisk from Tencent, as the latter continues to gainshare and its nearest pure-play portal competitor,Sina
166、, has succeeded in developing the mostinfluential micro-blogging Weibo in China. Sohuhas admitted its Weibo operation has not beenable to compete. In addition, despite stronggrowth in search, its search business remains adistant number two to Baidu. Moreover, thecompany has spent a significant amoun
167、t of capitalbuying high quality content for its online video20business. But it hasnt been able to monetize theplatform as well as Youku. Moreover, while itsgaming business generates steady cash flow,investors can buy Changyou stock separately.That said, we note that Changyou is not veryliquid, with
168、an average daily turnover of justUSD2m per day. Finally, despite a significantcash position, management has never paid adividend and stock purchases have been verymodest (USD29m in the past two years).Sum-of-the-parts valueunlikely to be recognizedWe acknowledge that Sohu looks undervalued ona sum-o
169、f-the-parts basis. We derive a valuationrange of USD59 to USD67 using this approach.Compared to the current share price, thisrepresents potential upside of 47-64%.When we look at Sohus sum of the parts, wedont see much debate in valuing its two keycomponents. Changyou trades publicly and isworth USD
170、23 per share of Sohu. It represents42% of the sum-of-the-parts value. Attributablenet cash (adjusted for 67% of Changyous netcash) is USD17 per share or 30% of value. Thus,70% of the sum-of-the-parts value is in Changyouand net cash. This is USD40, essentially whereSohu trades today.The valuation de
171、bate centres on the portal, videoand online search. On the portal, we assign a11S (SOHU US)Internet13 November 2012revenue multiple of 2-3x on 2013e revenue. This isat a 50% discount to the 6x multiple at which Sinacurrent trades. We argue that without Weibo,Sohus portal business is far less valuabl
172、e than Sina.Furthermore, we are cautious on display brandadvertising for 2013. This yields a range of USD10to USD15 per share or 20 to 25% of total value.For video, we assign a revenue multiple of 2-3x2013e revenue. This is at a 50% discount to thatof Youku Tudou. We argue that this businessremains
173、in the show me stage in terms of itsability to increase the monetization. Given itssecond position in online video traffic, its revenuegeneration was a third of that of Youku in 2011.This yields a value of USD3 to USD4 per share or5-7% of total value.Finally, the other key component is search. Wemar
174、k to market our valuation of the most recenttransaction. In 2Q, Sohu repurchased 10.88% ofSogou from Alibaba for USD26m. The implied avaluation of USD237m for Sogou. Given Sohuscurrent 63% stake, this is worth USD4 per shareor 7% of total value.While some investors look at Sohu using a sum ofparts v
175、aluation, we choose not to. Our primaryreason is that we do not see management selling itsdifferent businesses at significant premiums near-term. Thus, we believe the chances of investorsactually capturing the full sum-of-the-partsvaluation are low. We think investors focusing on asum of parts valua
176、tion will be disappointed.We point to the listing of Changyou as anexample. The company trades at a 4x 2013eearnings, compared to Sohus 13x PE. We dontbelieve it has been a value-accretive exercise forshareholders. 7Road, Changyous web-gamebusiness, will also be going public in next severalquarters.
177、 If Sogou is able to list then that could bea value-creating exercise. That said, the businessis not yet profitable. Further, the dominant searchengine, Baidu, has gotten significantly de-ratedrecently and trades at the same PE as Sohu on2013e earnings. We see little investor appetite foran IPO at a
178、 high valuation near-term.When we look at the substantial cash position ofSohu, its undemanding PE relative to its earningsgrowth rate, and its free cash flow generation, wewonder if Sohu should be a public company. Thatsaid, management has repeatedly said that itprefers to remain publicly listed, u
179、sing stockoptions to reward employees. Further, Chairmanand CEO Charles Zhang owns 20% of the sharesin the company.Use a PEG approach todetermine USD37 target priceWe derive our USD37 target price using a PEGapproach that is consistent with how we value allthe China Internet stocks in our coverage.
180、Webelieve PEG is a useful and effective way toevaluate growth stocks as it incorporates anexpected long-term earnings growth rate. Inaddition, it allows investors to compare theabcvaluation of different companies with differentSohu sum of parts valuation (USDm)_ Range _ Value _ Per Share_ _ % total
181、value _Revenues MethodologyStakeLowHighLowHighLowHighLowHighPortalVideoOnline searchOnline GamingMobile VAS1968018266659Multiple of revenueMultiple of revenuePrivate transactionMarket valueMultiple of revenue100%63%67%100%223339316014990059589 USD 10 USD 15241 USD 4 USD 6149 USD 4 USD 4900 USD 23 US
182、D 2359 USD 2 USD 217%7%6%39%3%23%9%6%35%2%Cash660660 USD 17 USD 17USD 59 USD 6728%100%25%100%Source: Bloomberg, HSBC estimates, SINA trades at 6X 2013 revenue, Youku trades at 5X 2013 revenue21S (SOHU US)Internet13 November 2012growth rates. We believe it is a more completepicture than PE by itself.
183、 The key limitation onthis approach is the accuracy of the growth rate.Sohus five year historical PEG for a three-yearearnings CAGR is 0.68. We apply this PEG to ourforecast of 18% EPS growth from 2013 to 2016onto our 2013e EPS of USD3.12. This yields atarget price of USD37, implying -7.6 % potentia
184、lreturn from the current levels.In addition, we use a DCF to cross-check ourvaluation. We apply Sohus historical beta of 1.5(according to Bloomberg), and our standard 2%risk free rate and 10% equity risk premium. Ourstandard perpetual growth rate is 2%. We alsotake our standard minority discount of
185、20%. Thisapproach yields a value of USD44, representingonly 11% upside from the current levels.Under our research model, for stocks with avolatility indicator, the Neutral band is 10pptsabove and below the hurdle rate of 10% for Chinastocks. Our target price of USD37 implies apotential return of -7.
186、6%, which is below theNeutral band. We therefore initiate coverage onSohu with an Underweight (V) rating. Potentialreturn equals the difference between the currentshare price and the target price, including forecastdividend yield when indicated.Initiate Changyou withOverweight (V) and USD31target pr
187、iceWe initiate coverage of Changyou with anOverweight (V) rating and set a target price ofUSD31. We value all China Internet stocks using aPEG approach as it captures earnings growth.Applying Changyous historical PEG of 0.35 to our2013 EPS estimate of USD5.99 and our 15% EPSCAGR from 2013 to 2016, w
188、e derive a USD31target price. Our USD31 target price implies a 27%potential return from current levels.22Additionally, our valuation is supported by a DCFapproach. We use companys historical raw beta(according to Bloomberg) of 1.329, our standardrisk free rate of 2% and 10% for equity riskpremium. T
189、his derives a WACC of 15%. We alsouse our standard 2% perpetual growth rate. Forequity free cash flow, we adjust for Sohus 67%ownership. All-in, this yields a value of USD28.Under our research model, for stocks with avolatility indicator, the Neutral band is 10pptsabove and below the hurdle rate of
190、10% for Chinastocks. Our target price of USD31 implies a returnof 27%, which is above the Neutral band. Wetherefore initiate coverage of Changyou with anOverweight (V) rating. Potential return equals thedifference between the current share price and thetarget price, including forecast dividend yield
191、when indicated.Risks to Changyous ratingNew games could failThe inherent nature of the online gaming businessis the ability of a hit game to change a revenueand profit profile, and stock performance. This isparticularly true for a small company likeChangyou. We acknowledge the developmentcapabilitie
192、s of Changyou and 7Road. Thecontinued success of Changyous TLBB and7Roads leadership with DDTank and Wartunepoint to both commercial instincts andprogramming skills. Nonetheless, we have novisibility on that currently but will monitor thereleases closely.We note that Changyou has had games that have
193、failed to live up to expectations. For example,Duke of Mount Deer was a highly anticipated 3DMMORPG based on a very famous novel byLouis Cha. We believe management has spentseveral million dollars and over four years todevelop this game. Nonetheless, its originallaunch was delayed by over a year in
194、order toabcS (SOHU US)Internet13 November 2012improve the game further. To date, it remains onlythe number 3 game for Changyou, unable to takethe lead from an aging TLBB.That points to another issue. Since TLBB is sowill be unlikely. Changyou may acquire smallerdevelopers, particularly in web gaming
195、. A costlyacquisition that destroys value could lead to stockunderperformance.abclarge (we estimate nearly USD350m in revenuethis year), it would take a number of blockbustergames to materially accelerate total revenuegrowth for the company.The company will use a combination of in-housedevelopment a
196、nd licensed games to drive growth.Battlefield Online, a well-known MMO franchiselicensed from Electronic Arts, will be launched thisyear. That said, it is a first person shooter game, andthat that category is dominated by Crossfire inChina, a licensed game operated by Tencent.We note that we have no
197、t reflected anyblockbuster games in our forecast.Key games could decline fasterTLBB is a mature game. While it has a large andloyal user base, we believe management needs tocontinually refresh and update the game to exciteand maintain user engagement. Further, as usersage, they generally have less t
198、ime to play games.There is a natural attrition to its core user baseover time, in our view.Web-games are likely to mature faster thanMMOGs by their very nature. If management isunsuccessful in finding an international audienceor updating its games, the stock will likelyunderperform.M&A likely but fo
199、r small dealsChangyou has grown and diversified throughacquisitions. 7Road was acquired last was also purchased from Sohu in2011. With USD450m in cash expected by year-end, Changyou has the war chest to makeacquisitions. That said, we believe that its parent,Sohu, continues to be in the investing p
200、hase(particularly video) and large acquisitions for cash23PriceS (SOHU US)Internet13 November 2012Global internet comps_ EPS _ _PE _abcCompanyChina & Hong KongTENCENT HOLDINGS LTDBAIDU INC - SPON ADRNETEASE INC-ADRSINA CORPQIHOO 360 TECHNOLOGY CO-ADRCTRIP.COM INTERNATIONAL-ADRSOHU.COM INCCHANGYOU.CO
201、M LTD-ADRGIANT INTERACTIVE GROUP-ADRSHANDA GAMES LTD-SPONS ADROURPALM CO LTD-AELONG INC-SPONSORED ADRNETDRAGON WEBSOFT INCPERFECT WORLD CO-SPON ADRE-COMMERCE CHINA-SPON ADRKONGZHONG CORP-ADRCap USDm63,71239,7767,0593,7272,4252,8101,4661,2591,188947642589534509321242LCY2671145456202039245325178114620
202、12e9.184.944.580.050.571.021.885.140.810.760.542.090.442.26(0.99)0.842013e10.996.795.170.570.931.232.405.630.860.810.843.040.612.60(0.97)0.932012e29.123.111.81122.035.719.220.524.76.34.445.18.218.94.76.92013e24.316.810.498.421.915.916.084.35.94.229.35.613.44.16.3meanmedian18.513.4USGOOGLE INC-CL AFA
203、CEBOOK INC-AYAHOO! INCACTIVISION BLIZZARD INCLINKEDIN CORP - AIAC/INTERACTIVECORPELECTRONIC ARTS INCGROUPON INCAOL INCZYNGA INC - CL APANDORA MEDIA INCYELP INCZILLOW INC-CLASS ATAKE-TWO INTERACTIVE SOFTWRE221,46247,53719,89011,98911,0514,3063,7922,9223,2401,7551,3781,4171,230966675221711105491243428
204、23371140.030.511.391.010.552.651.060.182.700.03(0.06)(0.07)0.301.9446.600.641.141.101.223.581.240.351.620.020.080.160.641.1716.942.712.110.7189.118.611.224.812.872.2(140.7)(321.8)126.25.514.534.314.79.885.613.89.613.021.3128.3106.0142.158.59.2TRULIA INC58822GLU MOBILE INCMAJESCO ENTERTAINMENT CO2124
205、431(0.05)0.210.170.27(69.1)5.018.93.9meanmedian42.716.8JapanYAHOO JAPAN CORPNINTENDO CO LTDNEXON CO LTDSEGA SAMMY HOLDINGS INCGREE INCNAMCO BANDAI HOLDINGS INCKONAMI CORPSQUARE ENIX HOLDINGS CO LTDCAPCOM CO LTDTECMO KOEI HOLDINGS CO LTDDAIKOKU DENKI CO LTDGUNGHO ONLINE ENTERTAINMENTINDEX CORP20,2481
206、8,2695,2754,9944,1653,5373,3121,6721,28070239151110427,71010,2709671,4941,4161,2691,8381,1541,5056232,105354,0002,105939385172209106175891745617517,397201,9694311001902201111901031816118621,746184298.8110.711.48.76.812.010.513.08.611.112.120.3103.414.123.89.77.96.411.49.711.28.310.311.316.311.4meanm
207、edian11.711.2South KoreaNHN CORPNCSOFT CORPORATIONWEMADE ENTERTAINMENT CO LTDCOM2US CORPNEOWIZ GAMES CORPJCENTERTAINMENT CORPGAMEHI CO LTDDRAGONFLY GF CO LTD10,9224,041740565488252270203249,000202,50048,30061,50024,45024,0008,70015,900N/A8,6782,6111,8474,7021,89377786213,82916,0973,6183,0283,2433,16
208、09532,950n/a23.318.533.35.212.711.218.418.012.613.320.37.57.69.15.4meanmedian11.710.9Other AsiaX-LEGEND ENTERTAINMENT CO LTINTERNATIONAL GAMES SYSTEM CASIASOFT CORP PCLGAMANIA DIGITAL ENTERTAINMENDQ ENTERTAINMENT INTL LTD278254148131311731071525217.668.151.130.044.127.674.861.331.464.5422.613.113.15
209、69.85.122.622.011.116.74.6meanmedian15.416.7OtherYANDEX NV-AMAIL.RU GROUP-GDR REGSUBISOFT ENTERTAINMENTGAMELOFTBIGBEN INTERACTIVECD PROJEKT RED SACITY INTERACTIVE SA7,5316,8378635521711529123337585230.811.190.480.221.640.330.581.091.500.620.311.680.342.5928.327.514.524.55.115.540.021.321.811.317.55.
210、015.08.9Source: Bloomberg24meanmedianmeanhighlowmedianStd Dev1 std devWgt Avg14.415.021.6142.14.613.228.547.420.5S (SOHU US)Internet13 November 2012Risk factors Business segments, particularly brand advertising, could surprise Better-than-expected operating leverage Return of cashabcBusiness segment
211、s couldoutperformRebound in online advertisingWe believe the key upside risk to our Underweight(V) rating is if Sohus brand advertising businesscan surpass our expectations. For the core portalbusiness to regain ground in the near term, it wouldrequire advertisers to regain confidence in theeconomy
212、and to increase their allocation of spend toonline. Given the current weak economicenvironment in China, we believe that MNCs aremore focused on cost-cutting than on growing adbudgets in the near term.Further, Sohus online video business could gaintraction faster than we expect. It has increased the
213、size of its sales force substantially. Nonetheless, webelieve it faces stiff competition from Youku, whichis also trying to recover from integration issues. Inaddition, even the online video advertising market isunder some pressure from slower online spending ingeneral. Further, we believe that CCTV
214、 will be lessinclined to raise prices for 2013, making it moredifficult for Sohu to raise prices.The Sogou search business has been expandingquickly from a low base and there is potential forit to quickly close the gap with Baidu. However,the company would have to invest significantly toexpand its d
215、istribution. It only has 100 salesits coverage by improving the amount of paidsearch links that are delivered for any givensearch query. In addition, it will have to improveits click-through rate by making its search adsmore relevant. This would take several more yearsand a substantial amount of inv
216、estment. Weexpect Sogou to continue to grow but do not see astep function improvement in revenues.Online gaming surpriseIf Changyou can deliver another blockbuster game,then our estimates would have to be revised upward.While we are constructive on Changyous productdevelopment abilities and also mod
217、el continuedinvestment, it is difficult for us to model anyparticular hit game. We believe our forecast of 13%revenue CAGR from 2012 to 2015 fairly capturesthe revenue potential in its pipeline. We have anOverweight (V) rating on Changyou.Operating leverageIf management is able to deliver better-tha
218、n-expected operating leverage, the stock couldoutperform. That said, we believe that in order tosolidify its long-term positioning in video, searchand mobile, management needs to continue itshigh rate of investment. Further, we see limitedroom for gross margin expansion as managementwill continue to
219、 invest aggressively on onlineprogramming. Moreover, limited growth in thepeople currently. Further, it will have to increase25S (SOHU US)Internet13 November 2012core portal business would cap margin expansionfor brand advertising.Return of cashThe shares could outperform the market ifmanagement dec
220、ides to aggressively repurchaseshares. In September 2011, the companyrepurchased 250,000 shares of Sohu stock atUSD66.40, for a total amount of USD16.6m. In1Q12, the management repurchased USD13m inshares. If management is a lot more aggressive inreturning part of USD719m in attributable netcash, th
221、en the shares could outperform.That said, we believe the management remains in aninvestment phase currently and views its cashbalance as a strategic asset. Management has neverpaid a dividend to shareholders. We note thatChangyou announced a special dividend in August,of which Sohu will receive USD1
222、35m, none ofwhich will be returned to Sohu shareholders.26abcS (SOHU US)Internetabc13 November 2012Disclosure appendixAnalyst CertificationThe following analyst(s), economist(s), and/or strategist(s) who is(are) primarily responsible for this report, certifies(y) that theopinion(s) on the subject se
223、curity(ies) or issuer(s) and/or any other views or forecasts expressed herein accurately reflect theirpersonal view(s) and that no part of their compensation was, is or will be directly or indirectly related to the specificrecommendation(s) or views contained in this research report: Chi Tsang and T
224、ucker GrinnanImportant disclosuresStock ratings and basis for financial analysisHSBC believes that investors utilise various disciplines and investment horizons when making investment decisions, whichdepend largely on individual circumstances such as the investors existing holdings, risk tolerance a
225、nd other considerations.Given these differences, HSBC has two principal aims in its equity research: 1) to identify long-term investment opportunitiesbased on particular themes or ideas that may affect the future earnings or cash flows of companies on a 12 month time horizon;and 2) from time to time
226、 to identify short-term investment opportunities that are derived from fundamental, quantitative,technical or event-driven techniques on a 0-3 month time horizon and which may differ from our long-term investment rating.HSBC has assigned ratings for its long-term investment opportunities as describe
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229、to describe their recommendations. Investors should carefully read the definitions of the ratings used in each researchreport. In addition, because research reports contain more complete information concerning the analysts views, investorsshould carefully read the entire research report and should n
230、ot infer its contents from the rating. In any case, ratings should notbe used or relied on in isolation as investment advice.Rating definitions for long-term investment opportunitiesStock ratingsHSBC assigns ratings to its stocks in this sector on the following basis:For each stock we set a required
231、 rate of return calculated from the cost of equity for that stocks domestic or, as appropriate,regional market established by our strategy team. The price target for a stock represents the value the analyst expects the stockto reach over our performance horizon. The performance horizon is 12 months.
232、 For a stock to be classified as Overweight, thepotential return, which equals the percentage difference between the current share price and the target price, including theforecast dividend yield when indicated, must exceed the required return by at least 5 percentage points over the next 12 months(
233、or 10 percentage points for a stock classified as Volatile*). For a stock to be classified as Underweight, the stock must beexpected to underperform its required return by at least 5 percentage points over the next 12 months (or 10 percentage pointsfor a stock classified as Volatile*). Stocks betwee
234、n these bands are classified as Neutral.Our ratings are re-calibrated against these bands at the time of any material change (initiation of coverage, change of volatilitystatus or change in price target). Notwithstanding this, and although ratings are subject to ongoing management review,expected re
235、turns will be permitted to move outside the bands as a result of normal share price fluctuations without necessarilytriggering a rating change.2745%17%1234567891011123S (SOHU US)Internetabc13 November 2012*A stock will be classified as volatile if its historical volatility has exceeded 40%, if the s
236、tock has been listed for less than 12months (unless it is in an industry or sector where volatility is low) or if the analyst expects significant volatility. However,stocks which we do not consider volatile may in fact also behave in such a way. Historical volatility is defined as the pastmonths ave
237、rage of the daily 365-day moving average volatilities. In order to avoid misleadingly frequent changes in rating,however, volatility has to move 2.5 percentage points past the 40% benchmark in either direction for a stocks status to change.Rating distribution for long-term investment opportunitiesAs
238、 of 13 November 2012, the distribution of all ratings published is as follows:Overweight (Buy)(28% of these provided with Investment Banking Services)Neutral (Hold)Underweight (Sell)38%(26% of these provided with Investment Banking Services)(20% of these provided with Investment Banking Services)HSB
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273、/201234996629abcGlobal Telecoms, Media & TechnologyResearch TeamGlobalStephen HowardAnalyst, Global Sector Head+44 20 7991 6820 EuropeNicolas Cote-ColissonAnalystAsiaTucker GrinnanAnalyst+852 2822 4686Yogesh AggarwalAnalyst+91 22 2268 .hkyogeshaggarwalhsbc.co.in+44 20 7991 6826nicolas.cote-Neale And
274、ersonAntonin Baudry+33 1 56 52 43 25Dan GrahamAnalyst+44 20 7991 Analyst+852 2996 6716Luis HiladoAnalyst+65 6658 .sgDominik Klarmann, CFAAnalyst+49 211 910 2769 dominik.klarmannhsbc.deRajesh RamanAnalyst+65 6658 .sgLuigi MinervaAnalyst+44 20 7991 Jenny LaiHead of Research, Taiwan+8862 6631 2860 .twO
275、livier MoralAnalyst+33 1 5652 4322Adam RumleyAnalyst+44 20 7991 6819Dhiraj Saraf, CFAAnalyst+91 80 3001 dhirajsarafhsbc.co.inCarrie LiuAnalyst+8862 6631 2864Nam ParkAnalyst+852 2996 6591Steven C PelayoAnalyst+852 2822 .hkJean KaplanAnalyst+44 20 7991 6831 AmericasRichard DineenAnalyst+1 212 525 6707
276、 Ivan EnriquezAnalyst+52 55 5721 2397 .mxSean GlickenhausAnalyst+1 212 525 4131 Enrique Gomez-TagleAnalyst+52 55 5721 2167 .mxGlobal Emerging Markets (GEMs)Herv DrouetAnalyst+44 20 7991 6827 Emerging Europe, Middle East & Africa (EMEA)Franca Di SilvestroHead of Research, SA+27 11 676 4223 Ricky SeoA
277、nalyst+822 37068777Rajiv SharmaAnalyst+91 22 2268 1239Brian SohnAnalyst+822 3706 8765Jerry TsaiAnalyst+8862 6631 2863Chi TsangAnalyst+852 2822 2590Yolanda WangAnalyst+8862 6631 2867Tse-yong YaoAnalyst+8862 6631 2861Joyce ChenAnalyst+8862 6631 .twtse-.twBlent YurdaglAnalyst+90 212 376 46 .trHongsik JoAssociate+822 3706 8774Eric CAssociate+852 2822 3165Specialist SalesTim Maunder-Taylor+44 20 7991 5006Gareth Hollis+44 20 7991 5124Thomas Koenen+49 211 910 4402Myles McMahon+852 2822 .hktim.maunder-.hk
