Should You Take a Chance on Renren?

Should You Take a Chance on Renren?

Renren has seen a mind-boggling 82% decline since its 2011 IPO. This slide came as many touted the company as the next Facebook . Following another missed quarterly report, investors might now have to face the obvious, and admit that companies such as Baidu or Sina might be more attractive, and that Renren's days could be numbered.

The Chinese social mirror
A large portion of China's publicly traded online companies mirror successful American companies. For example, Baidu is a spitting image of Google, while Sina could be compared to YouTube. What's exciting for investors is that most of these Chinese versions are still in their infancy, with far less annual revenue relative to their American peers, and they operate in a much larger country. Hence, the opportunity for growth is massive.

Unfortunately, this reasoning doesn't apply to all Chinese Internet companies. Case in point: Renren. Here's a company that filed for its IPO in 2011, and at the time had more than $750 million on its balance sheet with revenue growth of more than 50%.

The future seemed bright for Renren. However, almost simultaneously with its IPO, growth began to slow, and the company is now starting to look more like Myspace than Facebook.

This is not a duck
Renren stands as proof that the saying, "If it walks like a duck and quacks like a duck, then it must be a duck," is not true. Because Renren's core social media platform is just about a mirror of Facebook, yet the two are nowhere near the same in terms of operational efficiency.

In Facebook's last quarter, it saw revenue grow 60% year over year to $2.02 billion, and most impressively, costs/expenses, R&D, sales/marketing, and general & administrative costs all grew at a rate below revenue growth. Hence, Facebook is a company with accelerated growth, and in an industry where spending is rapid, Facebook is boosting its operating margin.

On the other hand, Renren's revenue totaled just $47.6 million for its third quarter , and that represented a 6% year-over-year decline. Moreover, the company's guidance implies a 36% to 41% year-over-year decline in fourth-quarter revenue , which is far below analyst estimates. Also, unlike Facebook, Renren saw its costs rise in all four categories, thus suggesting that management is not investing wisely.

Are there better options?
Renren saw heavy selling pressure after announcing its third-quarter earnings. It's not the Chinese social media company that investors want to chase. As we've seen in the past, once social media companies lose their coolness or likeability, it is usually a downward spiral.

Instead, social media peers such as Baidu or Sina look attractive.

With, we're discussing one of the larger Chinese social media companies, one with annual sales of $4.6 billion and growth of more than 40%. The company gains revenue from advertising, much like Google, and during its last quarter, Baidu's revenue per online ad customer rose 19.4% year over year, a rapid acceleration from the 3.9% rise it had seen in the prior quarter.

With that said, Baidu does have some problems with spending, which is outpacing growth. However, with operating margins of 39.3%, Baidu remains one of the most efficient social media companies that trades on the NASDAQ. This reason, and an attractive P/E ratio of 35 -- especially in the social media space -- makes Baidu appealing.

In the case of Sina, it is a bit more speculative than Baidu, having trailing-12-month revenue of just $607 million. However, the company is priced attractively at just 8.5 times sales versus 13 times for Baidu.

Granted, Sina is not growing quite as fast, at just 21% annually. Yet, like Baidu, the company has seen accelerated growth driven by advertising dollars, and still has a large market to monetize. Thus, it is an attractive investment opportunity.

Final thoughts
With all that's been discussed, how can you like Renren as a Chinese social media investment?

As we've seen with Baidu and Sina, advertising dollars are growing in China, yet Renren can not capitalize and is already seeing slowed growth in an industry that is still very much in its infancy.

It is very clear that this idea of Renren being Facebook is not accurate. Renren might have the same platform. It might look and operate similarly, and some analysts might even try to sell investors by comparing the two companies. However, Renren does not have the same monetization tools, and its management's decision to pursue game development over social interaction has backfired.

It is very hard to imagine a scenario where Renren recovers, as consumers are apparently moving on to the next cool platform.

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Brian Nichols has no position in any stocks mentioned. The Motley Fool recommends Baidu, Facebook, and Sina. The Motley Fool owns shares of Baidu, Facebook, and Sina. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Originally published