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YOKU Initiated HOLD at Chinavestor

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YOKU_2011Q2_AC_thumb September, 2011 (Alan Cho) We recommend a hold rating on Inc. (NYSE:YOKU).  Although the company makes up a large portion of the market share in the online video industry in China, the company has continuously had poor financial performance. Additionally, with murmurs of the possibility of an Internet bubble, investors have become more and more cautious when considering companies such as Inc. (NYSE:YOKU). Online video portal (NASDAQ:TUDO) IPOd less than a month ago besides other prime targets from China's internet sphere such as Sina Corp. (NASDAQ:SINA), (NASDAQ:SOHU) or Inc. (NASDAQ:BIDU).

Historical Net Loss Inc. (NYSE:YOKU) has not yet been able to report a net profit. There is top line growth, however, with revenues increasing every quarter. In the most recent quarter, Youku’s net revenue has increased by over 50%. The company expects revenues to continuing growing, however, it is still unclear when it will begin to report net profits.

Cash overflow

Ever since going public in December 2010, Inc. (NYSE:YOKU) has been attracting large amounts of cash from investors. The company’s cash and cash equivalents account alone increased by over six times since before the release of the company’s IPO, to a total of 1.8 billion RMB on hand by Q4 2010. By the second quarter of 2011, it seems that the company is continuing to gather cash, as it now has over 2.8 million RMB on hand.

Cautious Investors

Although investors were initially excited about the amount of Chinese internet companies going public in American markets, there has recently been hesitation as investors begin considering if they have overvalued these stocks. Additionally, the number of Chinese firms being accused of accounting fraud has been increasing. As a result, investors are becoming more wary when valuing these companies.



HOLD rating
  1. Historical Net Loss

Youku’s Revenue and Costs Inc. (NYSE:YOKU) continues to report net losses in the second quarter of 2011. Although the company has been recording top line growth in net revenues, it still has yet to report a net profit. Recent quarters show that net loss is decreasing slightly, however, this may not be enough to prove the company’s worth to investors.

Quarterly Revenues, Gross Profit and Earnings Growth, Inc., (NYSE: YOKU)


Revenue has increased by 55% in the last quarter. Youku’s primary source of revenue comes from brand advertising revenue, which made up approximately 94% of its earnings last year.  According to a statement made during the most recent earnings announcement, the company expects long term growth to continue as the website’s traffic increases, and as the company begins stronger investment in content and technological advancements.

The company’s cost of revenues has increased by 27% in the last year. Costs of revenue are primarily attributed to bandwidth and content costs. Bandwidth costs will increase as the company expands. Content costs will most probably be increased more substantially in the near future, as the company has been forming contracts with large media production companies such as Time Warner (NYSE:TWX) and DreamWorks Animation (NASDAQ:DWA).

Youku’s Competition

Comparing some of the data gathered about other companies, Inc. (NYSE:YOKU) is performing relatively poorly. Although most of these companies are not true comparables to Inc. (NYSE:YOKU), each company is currently, or is planning to run an online video section on their respective websites.

Selected Financial Ratios (as of 2nd quarter 2011) [thousands of RMB]


Tudou Ltd. (NASDAQ:TUDO)


Tencent (HKG:0700)

Current Ratio








Gross Margin








Net Profit Margin








Youku’s relatively large current ratio shows that the company may be holding on to too many assets, rather than using them to invest. This will be further discussed in the next section. Poor gross margin and net profit margin reinforce the fact that the company’s net revenues may not be growing fast enough to value the company as an appealing investment.

The firm most comparable Inc. (NYSE:YOKU) in terms of service provided is Tudou Hold. Ltd. (NASDAQ:TUDO), as the two companies make up the majority of web traffic concerning online video activity. It is also perhaps the only company that Youku seems to be clearly outperforming. Tudou Holds. Ltd. (NASDAQ:TUDO) has just gone in American in August 2011; and its financial results show a company that leaves much to be desired. However, as it has faced problems with its upper management in the past, and has only just gone public in a guarded environment, it might be expected that Youku performs better than Tudou. Because of the state Tudou Ltd. (NASDAQ:TUDO) is currently in, it is not a company that Inc. (NYSE:YOKU) should be performing equally to, but a company that Youku should be easily surpassing.

2. Cash Overflow

Current Asset Discussion

As seen by the comparison of current ratios in the above chart, Inc. (NYSE:YOKU) has accumulated a large amount of current assets. It is healthy for a company to have more assets than liabilities, of course, but Inc. (NYSE:YOKU) has never had an issue repaying debts on a timely basis, and at this point, will most certainly not face any of these problems in the near future. The build-up in current assets is a direct result of the large amount of cash the company received from investors when it released its IPO.  The company’s cash and cash equivalents account now make up the majority of the company’s current assets, as seen in the following chart.


Having cash on hand is not necessarily a bad thing, however, in Youku’s case, there is simply too much. The company does not need this much cash on hand for its operations. Instead, it must take actions to invest in new content or new technological to benefit its users, which will in turn generate more traffic for the company’s website.

Generating and Using Cash Inc. (NYSE:YOKU) has stated in its F-1 form that the issuance of preferred stock has always been the company’s most reliable source of cash. Now that the company has obtained such a large amount of cash by going public, it seems that generating cash will no longer be an issue.


Cash flow from operations has been consistently negative due to the constant net losses reported, mitigated slightly by adjustments in non-cash adjustments. Cash flow from investing activities was negative in 2008 and 2010, although in 2009 the company actually gained cash from investing in 2009 from a short-term investment made in 2008. While property and equipment has been acquired at a steady rate in the last three years, the company has been investing in intangible assets at a noticeably increasing rate. As the company’s intangible assets consists of licensed copyrights and advertising licenses, this implies that the company has been spending more money recently on forming contracts with other companies to increase advertising revenue and content on the company’s website. However, the rate at which the company spends its cash on investing activity needs to increase within the next year in order for the company to keep up with the cash flow it is amounting.

3. Cautious Investors

Larger Chinese internet companies such as Inc. (NASDAQ:BIDU) and (NASDAQ:SOHU) that have been listed in the stock market for a few years have been performing well. This may have caused investors to become overly optimistic as similar companies began going public. Companies such as Inc. (NYSE:YOKU), and more recently, Tudou Ltd. (NASDAQ:TUDO) have yet to report a net profit, yet investors still initially scrambled to acquire positions in the company, at prices perhaps higher than they were actually worth. As it became clear that the performance of the newer companies was not as expected, stock prices began to fluctuate wildly.


In addition to poor financial performance, investors are becoming aware of other risks such as regulatory risk. With internet censorship becoming more of a concern in China, internet video websites may soon be a target of attack. Finally, there may be some risk in the company’s financial reporting, as Inc. (NYSE:YOKU) has stated in its F-1 that there may be material weakness in its internal control over financial reporting. Accounting fraud is becoming more of an issue as companies such as Sino Forest, Longtop Financial Technologies (NYSE:LFT), Sino Clean Energy (NASDAQ:SCEI), previously thought to be safe companies, have been accused of fraudulent reporting. Investors are becoming more wary about the possibility to companies with inaccurate statements, so Inc. (NYSE:YOKU) must make certain that it is conforming to American accounting standards.

4.   Conclusion

Accurately valuing a young company that has captured the attention and money of so many investors is difficult, maybe even impossible. Youku’s glaring flaws make it seem to be a rather poor investment; however, there is still some potential left in the company. If the company manages to use its cash effectively and immediately, it may prove itself a worthwhile investment. However, if the company continues to perform as it has within the last year, it may be best to sell these shares and invest in a more stable and profitable stock.




Analyst Certification

I, Alan Cho, hereby certify that the views expressed in this research report accurately reflect my personal views about the subject securities and issuers. I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendations or view expressed in this research report.

Copyright, user agreement and other general information related to this report:

Copyright 2011 All rights reserved. This research report is prepared for the use of clients and may not be redistributed, retransmitted or disclosed, in whole or in part, or in any form or manner, without the express written consent of

This research report provides general information only. It is not intended to provide personal investment advice and it does not take into account the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. Investors should seek financial advice. Past performance is not necessarily a guide to future performance.

Fundamental equity reports are produced on a regular basis as necessary to keep the investment recommendation current.


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