By Ee Hsin Kok. Edited by Arjun Chandrasekar.
Alibaba is the largest retail commerce business in the world by Gross Merchandise Value, the second largest Chinese company, and has a market cap of 570 Billion USD as of 7/29/21. It is listed in the U.S as the ticker symbol ‘BABA’, and in Hong Kong under the ticker symbol ‘9988’. In this article, we will be analyzing the company and evaluating whether it might be a good investment decision for you.
Over the past 10 months, Alibaba has made the headlines for many of the wrong reasons. Everything was looking good for the company heading up to November of 2020, its share price was making all-time highs, earnings and cash flow were increasing at a rapid rate, and there was tons of optimism because Ant Group (an affiliated company that Alibaba holds a 33% stake in) was about to list and become the largest IPO in world history.
But all that went downhill when Jack Ma (the founder of Alibaba) delivered a speech criticizing the Chinese Communist Party (CCP). Ant Group’s IPO was suspended, Alibaba’s share price began a rapid decline, and Chinese authorities began investigating Alibaba for monopolistic practices. Currently, Alibaba sits at a share price of $195, over a 37% decline from its high of $310.
Ignoring the events that have caused Alibaba’s sharp decline, let’s focus on what the company actually does. Alibaba has four main business segments: Commerce, Cloud Computing, Digital Media, and Entertainment. But we should focus on the first two, as they are the most important.
The Commerce segment comprises 88% of Alibaba’s total revenue and almost all of its earnings. It comes from various platforms that facilitate both B2B, B2C, and even C2C sales, such as Alibaba.com, TMALL, Taobao, and Lazada. It is also important to note that Alibaba has a monopoly within China and is also the most valuable brand in China. China is set to be the world’s largest economy soon, with a 55% market share of all online retail sales (3 times that of second-place JD.com at less than 17%).
The other main segment – Cloud Computing – comprises 7% of total revenue and only recently turned a profit, but it’s Alibaba’s leading growth driver, having grown over 50.3% during the past 12 months. The Cloud Computing industry as a whole is expected to grow at a Compounded Annual Growth Rate (CAGR) of at least 17% for the next 5 years, so Alibaba is in a prime position to capitalize on that.
However, with all of its past progress, there is a huge risk when investing with Alibaba, and that is the CCP. Unlike the U.S, the government in China has a lot more power over its people and economy. This means that if the CCP chose to shut Alibaba down, they absolutely have the power to, and that’s a BIG risk. But even though it’s possible, how likely is it to happen? Though the government suspended the Ant Group IPO, it knows its people are heavily reliant on the company, and the fine it eventually gave Alibaba for anti-monopolistic practices was a mere slap on the wrist.
When you ignore the bad news surrounding Alibaba, what you’re likely to see is the company’s value. Alibaba is SERIOUSLY undervalued right now. It has an extremely conservative debt structure (a current ratio of 1.70 and an extremely low debt/equity ratio of 0.16), great Return on Equity(ROE) at 17.00%, and has grown its cash flow from operations at a CAGR of 22% for the past 3 years despite the scandal. Apart from bad news, there’s no reason why Alibaba won’t continue to grow at the rate it has been doing so. And if we factor that in and perform a 20 year discounted cash flow valuation on Alibaba, we can arrive at an intrinsic value of around $300, making Alibaba over 30% undervalued right now.
A Good Investment?
Alibaba is a great company that has been hit by bad news and is severely undervalued. By that logic, there’s no reason not to buy it. But maybe you are scared and you’re not the type of person that can take such a big risk. Maybe you’re someone who only wants to invest in predictable companies, and frankly, there’s nothing wrong with that. But the current Alibaba situation is very reminiscent of Facebook’s Cambridge Analytica scandal in 2018, and if you look up Facebook’s price performance since then, you might be quite upset if you didn’t buy it. Although there is a real risk with Alibaba, and there’s plenty of bad news surrounding the company right now, consider what the greatest investor of all time, Warren Buffet, has said time and time again: “Be greedy when others are fearful.”