New York-based hedge fund Acacia Partners LP has accused Baidu Inc.’s chief executive Robin Li for buying its video unit from the Internet giant at a price far below its value, according to a letter sent to Li.
Robin Li and Qiyi.com’s chief executive Yu Gong submitted a non-binding offer in February to acquire Baidu’s majority stake in iQiyi at an enterprise value of about US$2.8 billion on a debt-free and cash-free basis.
Here is Acacia Partners’ letter to Mr. Li in full for an interesting read.
July 18, 2016
We write as shareholders of Baidu since September 2012; we presently own more than 2.6 million shares of the Baidu ADRs worth over $400 million. The holding period of our investments typically exceeds seven years, and we hope to be shareholders of Baidu for far longer, as we have long admired your management of the business from a startup to a market leader.
One of your early board members told us that “Robin loves the company like his own child.” And indeed, for the nearly eleven years Baidu has been listed, we have watched you nurture Baidu with the same care, love and integrity with which we would all aspire to raise our own children.
That sense of nurturing therefore leaves us surprised and puzzled by your bid to privatize and purchase Baidu’s online video subsidiary, iQiyi.
We strongly believe that the purchase by you of iQiyi is against the best long-term interest of Baidu and its shareholders, for the following reasons:
1. We are convinced that the short-term improvement to Baidu’s earnings produced by iQiyi’s sale to you is trivial compared to the potential long-term value created for Baidu shareholders of owning iQiyi within Baidu.
2. We believe the price you have offered for iQiyi is far too low.
3. We are concerned that Baidu’s huge ramp-up in investment in iQiyi this past quarter is tantamount to a big donation by Baidu shareholders to future iQiyi shareholders (including you and your partners in the bid).
We worry that embracing what is an inherent conflict of interest will lead to damage to the reputations of both you and Baidu. It is better for Baidu to be regarded as a key institution, not the extension of the pocketbook of one man.
As long-term investors, we fully grasp that smart, long-term CEOs with good operating skills and a sense of net present value can be frustrated by the stock market’s impatience for good results.
Baidu’s prior investments in desktop search, mobile search and online travel all demonstrate a long record of successful operations and patient investment, and we are therefore confident in iQiyi’s long-term promise as well.
As Baidu has itself said over the years of financing the iQiyi investment, iQiyi should be a valuable part of the Baidu ecosystem and an important contribution to Baidu’s value proposition to its users. The experience of Google and YouTube has taught us that the growth of online video advertising is making content and the ability to judge user intent more and more valuable and important.
The loss of iQiyi would deal a blow to Baidu’s ability to become a full-fledged ecosystem for its partners and users. Baidu has talked about continued close cooperation with iQiyi after privatization, but we see that as both operationally challenging and facing many potential long-term conflicts of interest.
Baidu has shared virtually no operating data on iQiyi, so it is difficult for investors such as us to value it and evaluate the merits of your bid. However, from analyzing publicly available information, we are disconcerted by the price you have offered.
Independent research group 86Research issued a report on May 2nd valuing iQiyi at $5.8 billion, more than twice the $2.8 billion valuation that you have put forth in your bid. iQiyi competitor Youku was acquired by Alibaba for $4.8 billion late last year. Third party data suggests that iQiyi leads Youku on a number of important metrics, while growing much faster. Therefore 86Research’s valuation appears directionally plausible to us.
Finally, we have been disturbed to observe what appears to be a huge ramp in investment in iQiyi last quarter. In the four quarters through March this year in which Baidu has disclosed the impact of iQiyi content investment on Baidu profitability, iQiyi investment has consumed 5.1%, 5.4%, 5.9% and then suddenly 8.7% of Baidu’s revenue.
That spike in investment could be perceived as a big donation by Baidu shareholders to future iQiyi shareholders. It is akin to an infusion of cash made after your purchase price had been determined but before the deal has been consummated. This strikes us as particularly disappointing, as Baidu shareholders will never see the benefits of this investment if you privatize our subsidiary.
To date, no one has explained why Baidu should sell iQiyi rather than keep it, or alternatively capitalize it separately and maintain a controlling stake, as Baidu did with Qunar and Baidu Takeout (Waimai). We believe that any of these five choices would be preferable to your proposal of buying iQiyi:
1. Baidu could keep iQiyi, with enhanced disclosure to ensure iQiyi is valued fairly.
2. Baidu could directly finance iQiyi as it has Baidu Nuomi.
3. Baidu could take iQiyi public via an IPO while maintaining a controlling stake as it did with Qunar.
4. Baidu could spin off iQiyi to shareholders with some cash in it, and Baidu could maintain partial ownership in order to retain the valuable synergies between them.
5. Baidu could do a rights issue permitting all Baidu shareholders—not just special ones—to have a chance to benefit from ownership in iQiyi on equal terms.
Any of these options would help capture the value of iQiyi while enhancing its financing flexibility, ensuring it remains part of the Baidu ecosystem and providing Baidu shareholders with maximum potential value. All of these options seem preferable for both Baidu shareholders and for the reputation of both the company and you personally. Could you please consider one of these options?
Short-term shareholders focused on earnings in the next few quarters may like the idea of reducing long- term investment in Baidu’s future and selling a very valuable asset at a low price.
As long-term owners of Baidu, we think selling iQiyi would be a grave mistake. Your offer to buy out iQiyi is rife with conflicts of interest that we believe in a few years will paint a picture of Baidu corporate governance that is much uglier than the current admiring and respectful view.
Should your buyout of iQiyi succeed for you financially, it is critical for you to understand that the price will not just be the $2.8 billion valuation you have offered for the video subsidiary, but also Baidu’s reputation for good corporate governance, and your personal reputation.
We believe this reputation is worth far more than $2.8 billion, and we hope that you do, too. Thus, we respectfully urge you to withdraw your bid for iQiyi, for the best interests of the company and the many shareholders who believe in you.
Many thanks for the opportunity to share our thoughts.
Acacia Partners and related Acacia entities
(Note: bold text has been added by editors at China Money Network.)
(Update on July 25, 2016: The buyer consortium has decided to withdraw after failing to reach agreement, it said in an announcement.)