Alibaba Group Holding Ltd (BABA); Market cap (as of 09/10/2015):$170.1bn

After a year of the biggest IPO in history, Chinese giant Alibaba is yet again in the spotlight, this time for its poor stock performance. After the initial IPO price of $68, it soon jumped to its highest, $119.15. However, later on, Alibaba’s share price started to gradually decline, reaching $53.79. The stock is currently trading just above its IPO price, as a reaction to Jack Ma’s letter to the shareholders, which brought back confidence in the company.

 

Company Overview

Quoted as “BABA” on the New York stock exchange, Alibaba Group operates in several businesses, most of which deal with the online retail and services. Its online shopping sites such as Taobao and Tmall have a leading position in the Chinese e-commerce market, whereas the larger international presence is targeted with the AliExpress site. The company also provides electronic payment services, a shopping search engine and data-centric cloud computing services. At the same time, Alibaba is actively seeking for diversification by holding stakes in many strategic businesses such as electronic retailer Suning, and DidiKuaidi, an Uber-like taxi hailing company in China. Other investments are more peculiar and include stakes in companies such as entertainment studios and a soccer club.

At the heart of this group stands Alibaba.com, the online platform which connects buyers and smaller suppliers. Due to its peculiar business model, the unique geographic presence and the company’s size, it is hard to find a direct competitor of Alibaba. Nevertheless, many analysts have been keen on comparing it to Amazon (Market Cap: $249.4bn), the US based online retailer. In particular, an analysis of the key financials of these two companies shows that Alibaba has much more potential in terms of growth. Namely, Alibaba’s average revenue growth rate was about 40% in the last three quarters; while Amazon’s total net sales grew on average by only 17% in the same period. In addition, Amazon has much more of its capital tied in fixed costs and inventory, as its business model emphasizes faster deliveries and consequently requires larger number of warehouses in proximity to the consumers. This is not the case with Alibaba which has a different business model whereby it only transfers the goods from the suppliers to the buyers, thus having no significant inventory costs. Even the source of profitability is different: Amazon’s revenues are mainly collected through the standard wholesale-retail spread while Alibaba takes a cut on each product they sell. Nevertheless, while showing weaker growth perspectives, Amazon enjoys a higher EV/EBITDA multiple when compared to Alibaba (45.7x vs. 39.1x). Also the equity side is coherent with the market preference for the business operated by Amazon, whose shares have been constantly rising over the last year in contrast with Alibaba’s.

 

Alibaba’s Financials

Alibaba’s great dominance in the Chinese marketplace makes it hard for the other competitors to enter, which favors the future performance of this Chinese giant. With the overall Asia Pacific online sales reaching $1.3bn and expecting to grow 18.5% over the next 4 years, it seems that Alibaba is in the center of positive market trends. As a consequence, a deeper analysis is needed to understand the possible reasons of the downward pattern of Alibaba’s shares in the market.

Looking at the numbers, one explanation is that, although Alibaba has managed to massively grow in scale reaching the leadership in China and a discrete international presence, the company’s growth rates have been diminishing over time. The YoY growth of the company’s main performance measure, Gross Merchandise Volume, has diminished from 55.8%, to a still very strong, 45.6%. Moreover, total revenue YoY growth was consequently affected, as it fell by 7% (from 52% to 45%). Even though they remain very impressive, they failed to reach the expectations of analysts, further worrying the investors. Also the EBITDA margin is decreasing as it stands at 49%, against the 57% margin recorded in the last financial year. This is also due to Alibaba’s heavy investments in product developments, aggressive marketing campaigns and acquisitions.

On the positive side, there is the awareness that the Chinese online retailer is showing increasingly strong performance within the mobile transactions, where the GMV currently stands at 55% of the total. These figures could rise in the future, due to the expected 20-30% increases in the overall mobile payments for online transactions in Asia-Pacific for 2016.

It is also worth noting that some events responsible for the fall in the growth momentum of the Chinese online retailer are non recurring. Namely the regulators’ suspension of Capiao – the online lottery business, the disposal of the SME loan business (which Alibaba transferred to Ant Financial) and few management changes which carried some unexpected costs. If all of this hadn’t occurred, Alibaba’s revenues would have grown by 36% instead of the reported 28% for the quarter ended June 30, 2015.

Finally, there are also short term opportunities for Alibaba that the market should take into consideration. Firstly, there is still a lot of unused potential in merchandise marketing on mobiles. Facebook’s main revenues come from advertising fees charged to the companies that opt for the promotion on this social network. The fact that Facebook’s growth rate (39% revenue growth in the last 12 months) is as impressive as Alibaba’s confirms how lucrative the advertising business could be, which Alibaba still needs to maximize. Furthermore, there is also the awareness that, at any moment, Alibaba could expand its presence outside China, which now accounts for the vast majority of revenues. This strategy will likely have positive effects also on the company’s stock performance. At the moment, due to the weak international presence and huge dependence on the domestic market, investing in Alibaba is equivalent to invest in the e-commerce businesses in China. Given the recent deceleration of the biggest Asian economy, maybe one should not blame investors for their lack of appetite for Alibaba’s shares.

Market Analysis

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From a more market-oriented standpoint, in order to analyze the dynamics behind the slowdown of Alibaba (BABA) after its IPO, it is optimal to compare the Chinese stock with the HANG SANG Index (HSI). Even though Alibaba is listed on the NYSE, this comparison could be more significant as the stock has a very strong exposure to the Chinese market. The reason behind using the HSI is that the 50 companies included in this index represent 58% of the total capitalization of the Hong Kong Stock Exchange, making it one of the main indicators of the general market performance in Hong Kong.

The crucial period for the analysis, given the short market history of this stock, is the one running from February 2015 to today. In the chart, it is very clear that there has been no correlation between the equity bubble in the Chinese market and Alibaba performance. In fact, between February and April, when the positive trend for the Chinese equity has been very marked, the performance of the stock has been rather stable in the $80.44 – $89.3 trading range. During the month of May, Alibaba experienced some upside (which was not totally reflected by the HIS), following the rise of the CSI300 (not reported in the chart above. For further reference, check the AH Spread). After May 2015, when the Chinese stock market started suffering, the share price of Alibaba declined as well. Consequently, the stock lost more than 41% of its market value. In our opinion, the augmented (graphical) correlation between Alibaba and the Chinese market is also a demonstration of markets realizing that the corporation is more exposed than initially expected to its local market.

To conclude, the financial results which are somewhat weaker than in the previous years are no cause for concern according to Jack Ma. In addition, one could not expect that the growth, as big as Alibaba recorded in the previous years, can last forever. Markets may have exaggerated with stock price correction when taking into account the decline in growth, as it is still at the higher level when compared to the main competitors’. Overall, the decrease in the stock price is largely a consequence of Alibaba suffering the negative economic situation in China. However, the company could eventually gain an advantage from a period of relative macroeconomic stability, as the fundamentals of the firm, even if declining in terms of growth, remain strong. Thus, the decrease in price of the stock could be seen as another opportunity to buy cheap, especially for the investors with long-term horizons that do not mind short-time price swings.

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