We affirm our Market perform recommendation on Baidu as we remain constructive on Baidu’s credit outlook, but we see better value in Tencent. The spread differences between Baidu’s $-bond complex and A-rated US tech and A-rated China corporates are currently above historical averages. We prefer Baidu’s short-dated bonds (maturity < 5-years).

We expect Baidu to maintain its healthy credit profile and net cash position in the next 6-12 months. The negative COVID impact would likely last into 1Q23, but we expect significant recovery in advertising demand as China gradually reopens in 2Q23. In addition, we expect Baidu to maintain tight cost control measures, which should support its profit margins and cash flow generation. Baidu also sees limited near-term impact from the US chip restrictions.

Any regulatory clampdowns abroad and domestically (e.g. US SEC delisting, potential US investment ban, antitrust rules, data security and personal information protection laws) may adversely affect the business of Baidu. The interpretation of Chinese laws and regulations involves some degree of uncertainty.

Baidu was included in the Holding Foreign Company Accountable Act list in March 2022, which may potentially result in a trading prohibition of its ADRs from 2023 and a delisting in 2024.

There are regulatory risks given the corporate structure which uses variable interest entities (VIEs) to circumvent China’s restrictions on foreign ownership of Internet Content Providers (ICPs).

Baidu has made significant investments into long-term AI-related projects, which may take time to turn profitable. vA potential escalation of the US chip restriction could have a material negative impact its AI cloud related busines.