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Yu Gong (center), founder and CEO of China-based iQiyi (IQ), rings the Opening Bell at Nasdaq MarketSite in Times Square with employees and investors in celebration of its initial public offering (IPO) on March 29, 2018 in New York City.

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In a bid to increase revenues, Chinese video streaming platform iQiyi is aiming to focus on movies over the next two to three years.

Often compared with Netflix, Beijing-based iQiyi became the biggest Chinese company since Alibaba’s public offering to list in New York last year. The video streaming company offers both paid and free content — preceded by advertisements that can last nearly a minute or far longer.

The $15.2 billion company has expanded from being a popular platform for streaming video to a brand known for its own drama series, variety shows and other content. But that development comes at a cost. Last year, iQiyi said it nearly quadrupled operating losses to 3.3 billion yuan ($483.5 million), while its margin of loss jumped to 47% from 19%.

CEO Gong Yu told CNBC in an interview last week that the company’s near-term priorities are producing original content and incorporating artificial intelligence. And in that drive for original material, iQiyi is focusing on movies, he said.

“We plan to spend the next two to three years to see whether we can innovate in this industry,” Gong said in Mandarin, according to CNBC’s translation. “In other words, in the future, the leading top movies on iQiyi will be original productions by iQiyi. The first window of opportunity is still to screen them in movie theaters. The second window of opportunity is to show them on iQiyi, so as to maximize the total revenue.”

China has rapidly grown into one of the largest markets for movies in the world, raking in $9 billion last year and placing second only to North America at $11.9 billion, according to the Motion Picture Association of America.

But just as growth in China’s overall economy is slowing and movie theaters face challenges from online entertainment, the country’s box office earnings have tapered off. Data from ticketing website Maoyan showed earnings grew 9% to 60.7 billion yuan last year, down from 23% growth a year ago. In the first quarter, Maoyan data showed box office earnings fell 7% from a year ago, despite release of blockbuster film “The Wandering Earth.”

On the other hand, the market for online videos is still growing.

In the next five years, the so-called over-the-top subscription economy in China will be nearly as big as that of pay TV within the next five years, Wangxing Zhao, associate research analyst, S&P Global Market Intelligence, wrote in a report for 2019 published by the Asia Video Industry Association.

“By 2022, China’s aggregate (subscription video-on-demand) revenue will amount to an estimated 94.8% of its multichannel revenue, indicating an almost evenly divided pie between traditional incumbents and internet heavyweights,” Zhao said.

The bigger question will still be when content costs can fall, and we do not expect that to happen in 2019 as shows purchased last year were still expensive, and costs will be amortized this year

David Dai

senior analyst, Bernstein

iQiyi, which is majority-owned by Baidu, ranks second in China’s video streaming market, with Tencent’s video platform taking first place and Alibaba-backed Youku in third. As of March, iQiyi’s app ranked eighth in China, with a penetration of 44.5%, slightly more than ByteDance’s local version of TikTok, Douyin, according to a report from app data company Aurora Mobile.

Tencent Video and iQiyi have just over 530 million monthly active users each, according to Questmobile data cited by Jefferies analysts Karen Chan and Ken Chong said in a May 10 report. They have a “buy” rating on the stock, and their base case projects iQiyi will break even on an operational level by fiscal year 2021, driven by a “meaningful addition of paying subscribers” — to 153 million next year — and lowered costs from a mix of originals and less spending on licensed content.

The analysts pointed out that, during iQiyi’s annual conference in Beijing last week, the company announced more than 80 new dramas and 50 variety shows for 2019 and 2020.

Perks of a tech native

While Alibaba and other Chinese corporate giants entered the film industry several years ago, iQiyi’s background as a video streaming company gives it an edge, CEO Gong said.

He said a movie that does well in theaters and online doesn’t need costly wide-range shots or special effects, since the value of such features would be less apparent on smaller screens. What is most important for a dual-format movie, according to Gong, is a strong lead actor, who can then make ordinary street and office settings appear more vibrant.

Using artificial intelligence is another way the company can reduce production costs and improve monetization, the CEO said.

In addition to raising $2.25 billion at its IPO last March, iQiyi has since held two convertible note offerings, for a total raise of about $4 billion. The company is set to report first-quarter results this Thursday.

Deep learning allowed AI technology to explode commercially at one go in 2017, so we have just started AI technology. Maybe in the next 8, 10, 15 years, we may enjoy the changes brought by AI technology.

Gong Yu

founder and CEO, iQiyi

Elinor Leung, head of Asia telecom and internet at CLSA, said in a May 6 report that she expects iQiyi’s operating losses will fall to 2.3 billion yuan in the first quarter. She also expects the cost of content to decline to 88%, and drop further to 75% this year with a slew of new original content and a cap on celebrity salaries due to regulation.

She projected that subscription revenue will increase 60% year-on-year to 3.4 billion yuan, and that the company will gain 14 million new paying users, bringing the total count to 96 million.

For Gong, iQiyi is the fourth internet company he has overseen. During the dotcom boom of the late 1990s and early 2000s, Gong founded and led real estate search engine focus.cn, which was then sold to search engine Sohu. He held executive roles, including that of chief operating officer, at Sohu until 2008. Gong was also president and chief officer of mobile internet solutions company umessage.com, before founding iQiyi in 2010.

The tastes of Chinese consumers haven’t changed much over the last 10 years, Gong said. Rather, he emphasized their greater desire for quality entertainment, as exhibited in faster-than-expected growth of paying members in roughly the last 12 months.

It’s still unclear how quickly iQiyi’s efforts to build different revenue streams can offset the company’s cash burn.

“The bigger question will still be when content costs can fall, and we do not expect that to happen in 2019 as shows purchased last year were still expensive, and costs will be amortized this year,” David Dai, senior analyst at Bernstein, and his team said in a May 6 report. They rate the stock as “underperform.”

Whether in its push into movies or other channels, the biggest challenge for iQiyi in the future will be its ability to produce original content, said Gong, who downplayed piracy as no longer being a major problem. The company is already testing ways to use artificial intelligence, augmented reality and virtual reality to make interactive content – and releasing hardware such as VR headsets.

But Gong said he expects it will take more than five years in order for the technologies to produce content that is clearly different than what is available today. “Deep learning allowed AI technology to explode commercially at one go in 2017, so we have just started AI technology,” he said. “Maybe in the next 8, 10, 15 years, we may enjoy the changes brought by AI technology.”

— CNBC’s Michael Bloom contributed to this report.

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OECD cuts growth outlook to post-crisis low

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The trade war between the United States and China has plunged global growth to its lowest levels in a decade, the OECD said on Thursday as it slashed its forecasts.

The Organisation for Economic Cooperation and Development said that the global economy risked entering a new, lasting low-growth phase if governments continued to dither over how to respond.

The global economy will see its weakest growth since the 2008-2009 financial crisis this year, slowing from 3.6% last year to 2.9% this year before a predicted 3.0% in 2020, the OECD said.

The Paris-based policy forum said the outlook had taken a turn for the worse since it last updated its forecasts in May, when it estimated the global economy would grow 3.2% this year and 3.4% in 2020.

“What looked like temporary trade tensions are turning into a long-lasting new state of trade relationships,” OECD chief economist Laurence Boone told Reuters.

“The global order that regulated trade is gone and we are in a new era of less certain, more bilateral and sometimes assertive trade relations,” she added.

Trade growth, which had been the motor of the global recovery after the financial crisis had fallen from 5% in 2017 into negative territory now, Boone said.

Meanwhile, trade tensions have weighed on business confidence, knocking investment growth down from 4% two years ago to only 1%.

Boone said that there was evidence that the trade standoff was taking its toll on the U.S. economy, hitting some manufactured products and triggering farm bankruptcies.

The world’s biggest economy would grow 2.4% this year and 2.0% next year instead of the 2.8% and 2.3% respectively that the OECD had forecast in May.

Global Economy Screen with world map and man

Stephen Morton | Bloomberg | Getty Images

Brexit Britain

China would also feel the pain with the second-biggest economy growing 6.1% in 2019 and 5.7% in 2020, outlooks the OECD cut from 6.2% and 6.0% previously.

The OECD estimated that a sustained decline in Chinese domestic demand of about 2 percentage points annually could trigger a significant knock-on effect on the global economy.

If accompanied with a deterioration in financial conditions and more uncertainty, such a scenario would mean global growth would be cut by 0.7 percentage points per year in the first two years of the shock.

Meanwhile, uncertainty over government policies was also hitting the outlook for Britain as it lurches towards leaving the European Union.

The OECD forecast British growth of 1% in 2019 and 0.9% in 2020, but only if it left the EU smoothly with a transition period, a far from certain conclusion at this stage. The OECD had forecast in May growth of 1.2% and 1.0%.

If Britain leaves without a deal, its economy will be 2% lower than otherwise in 2020-2021 even if its exit is relatively smooth with fully operational infrastructure in place, the OECD said.

The euro area would not be spared from negative spillovers under such a scenario and would see its gross domestic product cut by half a percentage point over 2020-2021.

The OECD trimmed its forecast for the shared currency block, largely due to the slowdown in its biggest economy, Germany, which was estimated to be in a technical recession.

Euro zone growth was seen at 1.0% – down from 1.2% in May – this year and 1.0% in 2020 – down from 1.4% in May.

Boone said Germany’s economy had probably shrunk in the second and third quarters with a slump in car manufacturing, which accounts for 4.7% of German GDP, knocking three-fourths of a percentage point off German growth.

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Netanyahu urges rival Gantz to form unity government

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Israeli Prime Minister Benjamin Netanyahu delivers a speech to supporters of his Likud party after polls closed in the Israeli parliamentary elections.

Ilia Yefimovich | picture alliance | Getty Images

Prime Minister Benjamin Netanyahu called on Thursday on his main rival, former general Benny Gantz, to join him in a broad, governing coalition after Israel’s election ended with no clear winner.

A spokeswoman for Gantz, leader of the centrist Blue and White party, had no immediate response to the surprise offer from Netanyahu, head of the right-wing Likud party.

The change of strategy reflected Netanyahu’s weakened position after he failed again in Tuesday’s election, which followed an inconclusive ballot in April, to secure a parliamentary majority.

“During the election campaign, I called for the establishment of a right-wing government but to my regret, the election results show that this is impossible,” Netanyahu said.

“Benny, we must set up a broad unity government, as soon as today. The nation expects us, both of us, to demonstrate responsibility and that we pursue cooperation.”

On Wednesday, Gantz said he hoped for a “good, desirable unity government”. But he has also ruled out forming one with a Netanyahu-led Likud, citing looming corruption charges against the prime minister. Netanyahu denies any wrongdoing.

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How Saudi Arabia failed to protect itself from drones, missile attacks

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Smoke is seen following a fire at Aramco facility in the eastern city of Abqaiq, Saudi Arabia, September 14, 2019.

Stringer | Stringer

DUBAI — Questions have abounded all week as to how Saudi Arabia, the planet’s third-highest defense spender and steward of the world’s largest oil facility, allowed itself to fall victim to a drone and missile attack that wiped out half of its crude production in a day.

“The Saudi leadership has a great deal of explaining to do that a country that ranks third in terms of total defense spending … was not able to defend its most critical oil facility from these kinds of attacks,” former U.S. diplomat Gary Grappo told CNBC on Tuesday.

The stakes for the future of Saudi Arabia’s ability to defend itself are global. Brent crude saw its largest price jump ever as markets opened this week, and the commodity’s next moves depend heavily on Saudi oil giant Aramco’s ability to recover its production capacity and defend itself from similar attacks.

Investors are likely asking themselves how the kingdom could have left itself so vulnerable and what that means for the future of oil, global markets and the long-awaited Aramco public stock offering.

So how did the Saudis, who in 2018 spent an estimated $67.6 billion on arms — second only to the U.S. and China — fail to defend their economic jugular vein?

A target like ‘a Christmas tree’

The Saudis have a lot of sophisticated air defense equipment. Given their general conduct of operations in Yemen, it is highly unlikely that their soldiers know how to use it.

Jack Watling

Land warfare expert, Royal United Services Institute

It also doesn’t help that massive oil plants are just easy targets.

“Saudi oil assets are vulnerable for the simple reason that when flying over them at night, they stick out against the desert background like a Christmas tree,” Michael Rubin, a former Pentagon official and Middle East expert at the American Enterprise Institute, told CNBC in an email.

“This means that enemies don’t need high-tech GPS-guided drones, even though they might have them, but can also use relatively lower technology drones.”

Drone wreckage including one described as an Iranian Delta Wave UAV, foreground, from the attack on the Aramco Abqaiq oil refinery, sits on display during a Ministry of Defense news conference in Riyadh, Saudi Arabia, on Wednesday, Sept. 18, 2019. Saudi Arabia on Wednesday said the weekend attacks on the kingdoms critical oil infrastructure were “unquestionably sponsored by Iran.” Photographer: Vivian Nereim/Bloomberg via Getty Images

Vivian Nereim | Bloomberg | Getty Images

Twenty-five drones and missiles were used in the Saturday strikes on state oil giant Saudi Aramco facilities Abqaiq and Kurais, Saudi’s defense ministry said. While claimed by Yemen’s Houthi rebels, Saudi and U.S. officials say Iran was responsible, a charge Tehran has denied.

Dave DesRoches, an associate professor and senior military fellow at the National Defense University in Washington, D.C., told CNBC: “If an attack is of a different threat than the system was designed for — that is a low-altitude cruise missile instead of a high-altitude ballistic missile — then the system will not intercept it.”

Saudi Arabia’s current air defenses are ‘irrelevant’

Saudi Arabia boasts an arsenal of sophisticated and expensive air defense equipment. They have the American-made Patriot missile defense system, German-made Skyguard air defense cannons and France’s Shahine mobile anti-aircraft system, and they’ll soon have Lockheed Martin’s highly advanced THAAD (terminal high altitude area defense) interceptors.

But these are basically inconsequential, says Jack Watling, a land warfare expert at the Royal United Services Institute who advises Gulf militaries.

“The Patriots are kind of irrelevant,” Watling told CNBC in a phone interview. “The track record of Patriot engaging missiles of any kind is pretty awful, they very rarely hit the target.” The other issue, he says, is that it’s designed for shooting down high-altitude ballistic missiles, not the cruise missiles and drones used in Saturday’s attack.

“These were low-flying cruise missiles. They were coming in far below the engagement zone for Patriot. So you wouldn’t have tried to hit them with Patriot.” In its primary role of shooting down aircraft, Watling noted, the system does perform “very well.”

Aerial photographs found on open-source platforms show three Skyguard batteries placed around the targeted Abqaiq oil facility, which are slow-firing large caliber anti-aircraft guns, as well as French-made Shahine batteries from the 1980s.

Despite being permanently placed to protect these facilities, they Skyguards were not of much use either, Watling says: “The batteries around the site are firstly not the appropriate systems to engage cruise missiles, and there is no evidence that the Saudis have trained using their equipment.”

‘The Saudis… are largely inattentive’

To add to the Saudis’ weapon woes, their military personnel may not be up to the task either, according to Watling and several other experts who spoke to CNBC anonymously.

“The Saudis have a lot of sophisticated air defense equipment. Given their general conduct of operations in Yemen, it is highly unlikely that their soldiers know how to use it,” Watling said. He added that the kingdom’s forces have “low readiness, low competence, and are largely inattentive.”

“So if you’re a battery commander protecting against an oilfield which you never believed was going to come under attack, how carefully are you watching your radar? I’d be surprised if they’d even turned their radar on.”

Even those that do have the technical knowledge, Watling added, “are unlikely to be attentive enough to pick up small unmanned aerial vehicles or low flying missiles on their radar… quickly enough to coordinate countermeasures.”

The Saudi Defense Ministry did not respond to a CNBC request for comment.

In the Saudi military’s defense, oil infrastructure in the kingdom falls under the Ministry of Interior (MOI), military, noted Becca Wasser, a security analyst and war gaming expert at RAND Corp in Washington, D.C.

“Most of U.S. arms sales to KSA, particularly in air defense, have been to the military,” she wrote on Twitter on Monday. “The MOI, to my knowledge, isn’t well kitted out for this role as they tend to focus on domestic threats.”

So what does the kingdom need to do?

Barely a month has gone by since 2016 without Yemen’s Houthis firing rockets or missiles into the kingdom, which has been mired in a bloody war with the rebels since 2015. The Saudi-led offensive in Yemen has led to tens of thousands of deaths, according to the United Nations.

But to achieve the kind of point defense that could counter future attacks like Saturday’s, the Saudis need better short-range air defense systems and lower level search-and-track radar, experts say. “More importantly,” RUSI’s Watling added, “they would need soldiers who were competent at using them, and attentive.”

“If the Trump Administration is serious about confronting Iran in the region, it’s doing an abysmal job preparing for the small and big fights where the IRGC and its proxies can bring asymmetric weapons to bear,” Miguel Miranda, founder of website the 21st Century Arms Race, wrote last year in an op-ed for RealClearDefense.com.

“Genuine layered anti-ballistic missile defenses are needed to protect U.S. bases against hundreds of potential missile and rocket attacks by Iran in a future war.”

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