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These Resilient Chinese Tech Stocks Are Defying the Coronavirus Crisis

Many tech stocks recently plunged amid concerns about the novel coronavirus outbreak and plunging oil prices. Yet two Chinese tech companies survived the sell-off by posting solid fourth-quarter numbers.

Sohu (NASDAQ: SOHU), one of China's oldest internet companies, grew its revenue 5% annually to $490 million in the fourth quarter and beat estimates by $23.8 million. It generated a non-GAAP net income of $7 million, compared to a loss of $51 million a year earlier. Its earnings of $0.17 per ADS topped expectations by $0.57.

Changyou (NASDAQ: CYOU), the video game company which Sohu will merge with in the second quarter, dazzled investors as its revenue rose 35% annually to $135 million and beat estimates by $28.3 million. Its non-GAAP net income surged 174% to $63 million, or $1.11 per share -- which also crushed expectations by $0.53 a share.

Image source: Changyou/7Road.

Sohu spun off Changyou over 10 years ago but retained a majority stake in the company. It offered to buy up Changyou's remaining shares and take the company private last September, and the deal was approved in late January. Sohu and Changyou both offered stable guidance for the first quarter, despite the ongoing coronavirus outbreak and China's economic slowdown.

Let's take a closer look at these two companies and see if they're safe bets in a volatile market.

The key facts and figures

Sohu owns a network of internet portals and video sites. It spun off its own search engine, Sogou (NYSE: SOGO), in an IPO in late 2017, and ceded its controlling stake to Tencent (OTC: TCEHY). It remains Sogou's second-largest stakeholder and generates most of its revenue from online ads across its sprawling ecosystem.

Sohu's total online advertising revenue, which includes brand and search ads, declined 5% annually to $316 million during the fourth quarter. Within that total, its search revenue fell 1% to $275 million as its brand ad revenue plunged 27% to $42 million. This business is struggling with sluggish ad spending during China's economic slowdown, as well as competition from bigger platforms like Baidu (NASDAQ: BIDU), Tencent's WeChat, and ByteDance's Douyin (known as TikTok overseas) and Toutiao.

Image source: Changyou/7Road.

However, Sohu's gaming revenue -- which primarily comes from Changyou -- rose 40% annually to $132 million, thanks to the strength of TLBB Honor, the latest entry in Changyou's flagship TLBB (Tian Long Ba Bu, also known as Dragon Oath) series. Its older TLBB games, including TLBB PC and Legacy TLBB Mobile, also posted "improved performance" with content updates and promotional activities.

Rising margins and profits

Sohu's non-GAAP gross margin expanded sequentially and annually to 52% during the quarter, as an expansion of its search and ad gross margin offset a decline in its gaming gross margin.

Non-GAAP gross margin

Q4 2018

Q3 2019

Q4 2019

Search and advertising

34%

38%

41%

Gaming

85%

78%

75%

Total

46%

48%

52%

Source:Sohu Q4 earnings report.

Its search and ad margin improved as traffic acquisition costs declined across its own ecosystem and Sogou's search engine, but its gaming margin was weighed down by Changyou's growing dependence on lower-margin mobile games.

Solid guidance and low valuations

Sohu expects its revenue to decline 3% annually at the midpoint in the first quarter, with an adjusted non-GAAP net loss (which excludes its profits from Changyou and Sogou) of $45.5 million, compared to a loss of $72 million a year earlier. Changyou expects its revenue to rise 4% annually at the midpoint, and for its non-GAAP EPS to rise 12%.

Both companies noted that the impact of the novel coronavirus (which causes the disease COVID-19) was "difficult to analyze and predict," but Changyou's stable forecast indicated that the video game market was well-insulated from the outbreak -- and could actually benefit from more gamers staying at home.

Sohu wasn't profitable last year, but its losses are narrowing and its stock looks dirt cheap at less than one times its annual revenue. Changyou, which trades at just over one times its annual revenue, has a low forward P/E ratio of 5.

But should you buy Sohu or Changyou?

Investors shouldn't buy Changyou right now since the stock is trading near Sohu's buyout price of $10 per ADS and will be delisted after the merger. However, Sohu is still cheap, and it gives investors exposure to Sogou, the second largest search engine in China, and Changyou's stable gaming business. It might not attract as much attention as bigger tech stocks like Tencent or Baidu, but Sohu's resilience during the recent market downturn suggests that it's worth a closer look.

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Leo Sun owns shares of Baidu and Tencent Holdings. The Motley Fool owns shares of and recommends Baidu and Tencent Holdings. The Motley Fool recommends Sohu.com. The Motley Fool has a disclosure policy.


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