iQIYI, Inc.

Moat: 2/5

Understandability: 3/5

Balance Sheet Health: 3/5

iQIYI, Inc. is a leading online entertainment service provider in China, offering a wide array of content, including dramas, movies, variety shows, and other content through its streaming platforms.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

iQIYI operates in the Chinese market, a region with distinct regulatory and competitive dynamics.

Business Overview

iQIYI, Inc. is a major online entertainment platform in China, providing a wide range of content including dramas, movies, variety shows, and cartoons. It generates revenue primarily from membership services, online advertising, content distribution, and other channels.

  • Revenue Distribution: The majority of iQIYI’s revenue is generated from membership subscriptions, a model similar to many western streaming services, where users pay a monthly or annual fee for premium content. This is followed by online advertising where they sell ad space to businesses and organizations. There is also revenue generation through content distribution, where they distribute their content to partners and platforms. The company’s diversified revenue streams, while still centered around online entertainment, provide some stability against market fluctuations.

  • Industry Trends: The Chinese online entertainment market is competitive and rapidly evolving. There’s growing demand for high-quality original content, but consumers have a wide array of choices between streaming platforms. The industry is also characterized by strict government regulations and scrutiny on content, which can create hurdles for foreign media companies.

  • The increasing demand for short videos is significantly reshaping the online content consumption patterns in China.
  • Margins: The company historically has had low profit margins and even net losses, largely due to high content costs, a common issue for streaming platforms. This has led the company to focus on cost-cutting and efficiency measures in order to sustain its business model.
  • Competitive Landscape: iQIYI faces intense competition from other established video platforms, such as Tencent Video and Bilibili, as well as various emerging players in the short video market like Douyin (TikTok’s Chinese counterpart) and Kuaishou. This high competition forces all players to invest heavily in new and higher quality content and marketing, while simultaneously making it difficult to maintain stable pricing.
  • Differentiation: The unique aspect of iQIYI lies in its focus on high-quality, professionally produced content, including original dramas and variety shows. It also aims to use technology to create better user experiences and is increasingly using AI to optimize its platform and recommendations. Despite these efforts, differentiation is very difficult in the entertainment space.

Moat Analysis

  • Moat Rating: 2 / 5

iQIYI’s moat is limited primarily by low customer lock-in and high competition for content. The switching costs for viewers are almost nonexistent. It is easy to switch between streaming platforms if a different platform offers desirable content.

  • Brand: iQIYI has established a recognizable brand in China, particularly with its focus on higher quality original dramas and content. This helps attract viewers and subscribers. However, the brand does not have the same loyalty as many brands with durable moats, because viewers will switch if offered better/more attractive content from other providers.
  • Intangible Assets: iQIYI’s licensed copyrights, while valuable, are rarely exclusive and have a finite life. It does put the company in a stronger position compared to new entrants as these intangible assets are very difficult to get and require a long and complicated process to attain, it is a point where competitors can easily gain the same rights from content producers.
  • Cost Advantages: The company has not created a significant and lasting cost advantage yet. Production costs for high quality content remain very high, and competition in advertising and subscriber retention is fierce. Cost advantages stemming from scale or the like has not been able to materialize so far.
  • Network Effects: While a larger subscriber base increases the potential for more revenue, the network effect is not particularly strong for iQIYI. It isn’t a marketplace or a platform in which the value of the service increases with user increase.

Risks to the Moat

Several factors threaten iQIYI’s business model and its ability to sustain its market position.

  • Intense Competition: High competition from other well-funded platforms can cause difficulty in gaining market share and sustaining profitability. This forces iQIYI to invest heavily in content without a guarantee of revenue or profit.
  • Regulatory Uncertainty: China’s strict and ever-changing regulatory environment puts hurdles in content creation and distribution. Changes in content restrictions, taxation, or foreign investment policies can significantly impact iQIYI’s business.
  • Content Costs: A major risk for iQIYI is the high and rising cost of producing or licensing high-quality content. Increased competition for premium content can pressure the company’s margins even further.
  • Technological Changes: The pace of technological change can disrupt iQIYI’s current business model. The increasing popularity of short-video platforms means viewers will likely spend less time watching longer content. Failure to adapt to changing consumer preferences will make the platform quickly obsolete.
  • Macroeconomic Volatility: Macroeconomic uncertainty such as an economic downturn can reduce consumer spending on optional subscription services like iQIYI. Moreover, the strength of the Chinese economy will have a great influence on the performance of the advertising sector, the second largest part of the company’s revenue.
  • Weakening Brand Loyalty: As streaming platforms become more and more homogeneous, brand loyalty may not be strong enough to keep subscribers from switching to other options if their content and pricing are more attractive.

Business Resilience

iQIYI has shown some resilience to these threats. However, its business is highly sensitive to many external factors. It seems the company management is focused on reducing expenses and improving its content portfolio in order to bring in more users and improve margins. It’s efforts to gain more revenue from other areas outside of their traditional sources have not been very successful so far and they also introduce further volatility to their operating model. It is hard to say how long will those changes take effect, if ever.

  • The company will almost certainly face higher risks if it cannot improve profitability and it will make it very difficult to sustain its current spending on content.
  • Their business model is still largely dependent on their core operations which have low margins, it has to be seen if they can increase profits in other areas to offset this.
  • They also need to adapt to the changing consumer patterns which have been shaped by more and more online offerings, especially the short videos sector.

Financial Analysis

  • It is important to note that iQIYI is still a growing company, whose financials may vary greatly year over year, therefore, all figures presented are the most recent reported by the company.
  • Revenue: iQIYI’s total revenues for FY 2023 were RMB 31.9 billion (USD 4.49 billion), a 10% increase YoY. This increase is driven by growth in advertising and membership services.
  • Net Loss: iQIYI reported a net loss of RMB 573 million (USD 80 million) for FY 2023. Losses have historically been an issue for the company due to intense competition and cost of content. But, the company has shown improvement in recent years.
  • Cash Flow: The Company’s cash position has been deteriorating over the years, with negative free cash flow in most years. Cash from operations in 2023 has been 1.4 billion. While the company does have cash reserves and investment opportunities, negative free cash flow is a reason for concern.
  • Operational Expenses: Operating expenses were RMB 15.6 billion (USD 2.2 billion), a 4% decrease compared to FY 2022. The efforts to keep expenses under control are yielding some effect, but they still represent a major hurdle.
  • Debt: The Company does have a high level of long-term debt (RMB 11.5 billion as of December 2023), which needs to be looked into as debt service is a major part of its outlays. Debt, on the other hand, will provide a tax shield and will potentially help profitability in the long term.

Understandability Rating: 3 / 5 The concept of an online entertainment service is relatively straightforward, and most people are familiar with the workings of a streaming business. This makes iQIYI easy to grasp on a surface level. However, many of the accounting principles it follows and the complexities in the Chinese market makes the business slightly harder to understand fully for an outside investor. The Chinese legal and business context also add additional complexity to the business operations. The nuances of the Chinese entertainment space may not be readily apparent to those unfamiliar with the region.

Balance Sheet Health: 3 / 5 The company’s debt is concerning and it might be unable to maintain profitability if its cash flows continue to underperform. The presence of long-term debts means the company’s risk profile is slightly elevated, however, efforts from the company to reduce its expenses and improve its profitability might be successful and make the financials much more healthy. The high levels of debt and the long-term interest repayments create a higher risk for default. However, at the same time, this gives an opportunity to potentially yield more profits in the long term. The company’s free cash flows do not look great but the company is trying to improve it’s cash flow by lowering costs. The company’s assets are not too hard to understand and mostly consist of content related intangibles.

Recent Concerns / Controversies and Problems:

  • Financial Losses: iQIYI’s historical challenge of low profitability and operating losses has been a major concern for investors. Although there are some signs of improvement, especially in decreasing operational expenses, if the profitability issue continues, the company’s position can weaken.
  • Regulatory Pressures: Chinese government’s increased scrutiny over media and technology companies has created an uncertain environment for the company. Regulations might affect the profitability of the platform in the near term or the long term, thus investors should carefully monitor the changing political environment in China.
  • Increased Competition: The already extremely competitive Chinese market became even more fierce after the pandemic, with many companies trying to capture a piece of this growing market. As the main players increase spending on new content, iQIYI may have to follow and also increase spending which reduces its operating margin.
  • Management’s Response: The management is focused on producing popular content and a more disciplined budget. It is also looking for expansion in other areas, mostly technology focused businesses to reduce dependence on its core operations and increase profits. As a publicly traded company, the management is also looking to create more shareholder value by focusing on better economic policies.
  • Auditor Concerns: In recent audits, there have been some concerns expressed by the company’s auditors regarding internal controls and their financial statements. While this does not indicate any misdoing from the company, investors should still pay attention to any updates regarding this from the SEC and the company.