Company Overview
Alibaba Group Holding(Ticker Symbol — BABA) is one of the leading e-commerce giants in China. Over the last few years, the company has transformed itself from being a traditional e-commerce company to a conglomerate that has businesses ranging from logistics and food delivery to cloud computing.
Alibaba Group is represented by three businesses — Alibaba.com, Taobao, and Tmall. The company’s businesses account for more than half of all online retail sales in China, which is one of the world’s fastest-growing e-commerce markets. Taobao is one of Alibaba Group’s most profitable marketplaces that generates for more than 80% of its sales, thanks to soaring demand for high-quality imported brands in China.
The company is well-positioned in the New Retail space. In this space, it aims to bring together digital payments, e-commerce, food delivery and other parts of the business into one big ecosystem. The ubiquity of smartphones and the evolution of physical and online commerce are helping the company to gain momentum in this space.
Launched in 2009, the cloud business is now one of the biggest in China. Cloud computing has gradually become one of the fastest-growing businesses and the second-largest revenue source for Alibaba.
The company has also become a renowned name in the growing entertainment and media market, driven by increasing demand for videos across its platform and growing partnerships.
Total revenues were RMB509.7 billion (US$72 billion) in fiscal 2020. The company reports revenues under four broad heads, Core Commerce, Cloud Computing, Digital Media and Entertainment, and Innovation Initiatives, which generated 86%, 7%, 6% and 1% of total revenues, respectively.
Competitive advantages
- Alibaba serves about 80% of the Chinese e-commerce market. E-Commerce Index reveals which developing markets hold the most potential for online growth, and China is now leading the race in terms of maximizing the potential of the Internet compared to the West, with the most retail e-commerce sales of $2.09 Trillion. The low-cost, widely available telecommunication infrastructure in China has increased the popularity of online shopping. Therefore Alibaba, who dominates the world’s largest e-Commerce market has an edge over its competitors. Alibaba’s GMV remains solid. GMV or gross merchandise value is defined as the total value of transactions made across the company’s marketplace. It is a very important metric for e-commerce companies.
- Increasing monetization rates. It is the amount Alibaba earns from the sale of goods on its platforms. The company’s focus on foreign brands and other high-quality merchants on its platforms continue to increase the online marketing inventory on both mobile and the PC, thus further improving the monetization rate. Moreover, as the mobile platform offers immense growth potential, monetization for mobile is gaining momentum driven by new and advance mobile apps launched by the company. Management expects mobile monetization rate to approach or exceed that of PC, expanding profits for the company.
- Transforming the Retail Experience. Alibaba is working on the development of what it calls “New Retail” to bridge the gap between online and offline shopping using its big data capacity. It expects that the system will offer brick-and-mortar retailers new ways to evolve across marketing, inventory and distribution networks. These look promising and will not only reshape the retail landscape but also help Alibaba fend off competition. Alibaba’s partnership with Bailian in 2017 is a part of this “New Retail’ strategy. It plans to leverage its big data capacities to explore new retail opportunities across outlet design, technology research and development, customer relationship management, supply chain management, payment and logistics. Alibaba’s Ele.me and Koubei food delivery platform will remain the second-largest player in the local services market. The company is trying to leverage in-app traffic of Alipay, and explore opportunities in lower-tier cities.
- Cloud Computing. Alibaba Group’s Cloud computing sector is the world’s third-largest and Asia Pacific’s largest Infrastructure as a Service provider by revenue in 2019 in U.S. dollars, according to Gartner’s April 2020 report (Source: Gartner, Market Share: IT Services, 2019, Dean Blackmore et al., April 13, 2020). Alibaba Group is also China’s largest provider of public cloud services by revenue in 2019, including PaaS and IaaS services, according to IDC (Source: IDC Semiannual Public Cloud Services Tracker, 2019).
- Healthcare. Alibaba Health is their flagship vehicle for bringing innovative solutions to the pharmaceutical and healthcare industries. Alibaba Health engages in pharmaceutical and healthcare product sales business, establishes Internet healthcare platforms and explores digital health using cloud computing and big data technologies.
- Digital Media and Entertainment. Youku is the third-largest online long-form video platform in China in terms of monthly active users in March 2020, according to QuestMobile.Alibaba Pictures was involved in the production, promotion and distribution of several highly popular films in the twelve months ended March 31, 2020. For example, the movie 1917 won the 2020 Oscar Academy Award for Best Cinematography, Best Visual Effects and Sound Mixing. The Captain, developed and published by Alibaba Pictures, has generated more than RMB2.9 billion in ticket sales since its opening in September 2019.
Competitive Disadvantages
- Alibaba’s business structure involves certain risks due to the strict laws in China. According to Chinese laws, it is illegal for a foreigner to own stocks in any Chinese Internet company, which implicates that a foreign investor cannot be a real stockholder in Alibaba. Therefore, all foreign investors who bought Alibaba shares on the NYSE purchased stocks of the holding company called Alibaba Group Holding Ltd registered in the Cayman Islands and not that of the actual Alibaba. Therefore, they have no voting rights in the company or against any of its assets, including Taobao and Tmall. The investors will only receive a share in Alibaba’s profits, with no ownership rights.
- Alibaba is already facing tough competition from the likes of Tencent Holdings and Sea Limited. As the company continues to expand into the U.S., it will increasingly be up against well-established players like eBay and Amazon, who have been seeing great success. Moreover, eBay’s mobile payment system, PayPal, is very popular among U.S. consumers. PayPal is getting increasingly active in the offline segment as well, introducing new solutions almost regularly. Its payment volumes have seen very consistent double-digit year-over-year increases with both domestic and international contributing. Therefore, Alibaba’s services will take time to build the partnerships and relations to replicate the process in the U.S and get the same success.
Intrinsic Value Assessment
To determine the Intrinsic Value of Alibaba I used the Discounted Cash Flow (DCF) method. DCF uses Alibaba’s Free cash flows, which represents the cash a company generates after accounting for cash outflows to support operations and maintain its capital assets and estimates the value of the investment to project it’s future cash flows and justifies the price we pay now for this expected return.
Alibaba’s average Free Cash Flow(FCF) over the past ten years is $7380.82. I conservatively expect Alibaba to grow their FCF at a rate of 30.3%, based on their FCF growth for the last 10 years and grow at a rate of 1% into perpetuity. Note: For the past 10 years Alibaba has grown their FCF at the rate of 64.3%.
With these estimates in mind, Alibaba’s intrinsic value per share is $278.84 at a 10% annual discount rate. Based on the cash flows I have forecasted and a market price of $261.34, Alibaba may yield a 10.39% annual return.
Dividend Growth
This is important as it shows discipline within management and compensates the stockholder for trusting the company with their money. An excessive offload of profits to investors via dividends can signal a loss of vision within management and their inability to seek growth. No dividends can also be destructive as holding onto profits might lead to excessive executive compensation, sloppy management, and unproductive use of assets. For the average investor, the money they have in the stock can be seen as more trustworthy when it makes its way into the shareholders pocket.
Unfortunately, Alibaba Group Holding Ltd currently doesn’t pay any dividends.
Revenues Growth
Alibaba has four reportable segments — Core Commerce, Cloud Computing, Digital Media and Entertainment, and Innovation Initiatives. The details of these segments are discussed below.
Core Commerce: This segment comprises marketplaces operating in retail and wholesale commerce in China, as well as international commerce. The segment’s revenues in the quarter totalled RMB93.9 billion (US$13.3 billion), reflecting an increase of 19% on a year-over-year basis.
China commerce retail business (62% of total revenues) — The business vertical’s revenues in the quarter were RMB70.9 billion (US$10 billion), reflecting an increase of 21% year over year.
China commerce wholesale business (3% of total revenues) — This business generated revenues of RMB2.8 billion (US$394 million), reflecting a 9% increase from the year-ago quarter. This was due to an increase in revenues from Lingshoutong, a digital sourcing platform that connects FMCG brand manufacturers and their distributors directly to local mom-and-pop stores in China. Also, an increase in average revenues from paying members on 1688.com aided revenue growth.
International commerce retail business (8% of total revenues) — Revenues in the quarter were RMB5.4 billion (US$756 million), increasing 8% year over year. The increase was driven by revenue growth from AliExpress and Lazada.
International commerce wholesale business (2% of total revenues) — This business generated revenues of RMB2.46 billion (US$347 million), increasing 15% from the prior-year quarter. The growth was due to an increase in the number of paying members on the alibaba.com platform.
Cainiao logistics services (4% of total revenues) — This business generated revenues of RMB4.95 billion (US$699 million), up 28% year over year. The segment represents revenues from growing cross-border and international commerce retail businesses.
Local consumer services (4% of total revenues) — This business generated revenues of RMB4.8 billion (US$684 million), decreasing 8% year over year
Others business (2% of total revenues) — The business generated revenues of RMB2.6 billion (US$362 million), reflecting a 51% year-over-year increase.
Cloud Computing: This segment comprises Alibaba Cloud that offers a complete suite of cloud services. Revenues in the quarter were RMB12.2 billion (US$1.73 billion), up 58% from the year-ago quarter, driven by increased revenue contribution from both public cloud and hybrid cloud businesses.
Digital Media and Entertainment: The segment operates businesses through media properties that include UCWeb, Youku Tudou, OTT TV service, Alibaba Music and Alibaba Sports. Revenues from the segment were RMB5.9 billion (US$840 million), reflecting an increase of 5% on a year-over-year basis.
Innovation Initiatives and Others: This segment includes businesses such as the YunOS operating system, AutoNavi, DingTalk enterprise messaging and others. Revenues in the quarter were RMB2.3 billion (US$323 million), up 90% year over year. This was driven by an increase in revenues from online games and other business initiatives.
Key Metrics
Mobile Monthly Active Users (MAUs) — Mobile MAUs were 846 million, improving 17.3% from the prior-year quarter. This improvement was caused by an increase in the adoption of mobile devices by consumers as the primary method of accessing Alibaba’s platforms.
Annual Active Consumers — China retail marketplaces had 726 million annual active buyers, reflecting 11% year-over-year growth.
Operating Results
Alibaba’s operating expenses (product development + sales and marketing + general and administrative) of RMB30.6 billion increased by 18.2% from a year ago.
Operating margin was 6%, down 300 basis points year over year.
Adjusted EBITDA increased 1% year over year to RMB25.4 billion (US$3.6 billion).
Cash Flow/Share Repurchase
Net cash flow from operations was RMB2.16 billion (US$306 million) and free cash flow was an outflow of RMB4.2 billion (US$595 million) in the fiscal fourth quarter.
Low Debt to Equity Ratio — Respective of the industry
BABA’s Debt-to-Equity is ranked higher than 79% of the 928 Companies in the Retail — Cyclical industry.
Alibaba Group Holding’s Short-Term Debt & Capital Lease Obligation for the quarter that ended in Mar. 2020 was $734 Mil. Alibaba Group Holding’s Long-Term Debt & Capital Lease Obligation for the quarter that ended in Mar. 2020 was $17,132 Mil. Alibaba Group Holding’s Total Stockholders Equity for the quarter that ended in Mar. 2020 was $107,599 Mil. Alibaba Group Holding’s debt to equity for the quarter that ended in Mar. 2020 was 0.17.
A high debt to equity ratio generally means that a company has been aggressive in financing its growth with debt. This can result in volatile earnings as a result of the additional interest expense.
During the past 13 years, the highest Debt-to-Equity Ratio of Alibaba Group Holding was 2.68. The lowest was 0.02. And the median was 0.27.
ROE Growth
BABA’s ROE % is ranked higher than 92% of the 970 Companies in the Retail — Cyclical industry.
Alibaba Group Holding’s annualized net income attributable to common stockholders for the quarter that ended in Mar. 2020 was $1,802 Mil. Alibaba Group Holding’s average Total Stockholders Equity over the quarter that ended in Mar. 2020 was $106,847 Mil. Therefore, Alibaba Group Holding’s annualized ROE % for the quarter that ended in Mar. 2020 was 1.69%.
During the past 13 years, Alibaba Group Holding’s highest ROE % was 92.35%. The lowest was 17.17%. And the median was 24.77%.
ROE % is calculated as Net Income attributable to Common Stockholders (Net Income minus the preferred dividends paid) divided by its average Total Stockholders Equity over a certain period.
ROE % measures the rate of return on the ownership interest (shareholder’s equity) of the common stock owners. It measures a firm’s efficiency at generating profits from every unit of shareholders’ equity (also known as net assets or assets minus liabilities). ROE % shows how well a company uses investment funds to generate earnings growth. ROE %s between 15% and 20% are considered desirable.
Because a company can increase its ROE % by having more financial leverage, it is important to watch the leverage ratio when investing in high ROE % companies.
ROA Growth
BABA’s ROA % is ranked higher than 94% of the 1011 Companies in the Retail — Cyclical industry.
Alibaba Group Holding’s annualized Net Income for the quarter that ended in Mar. 2020 was $1,835 Mil. Alibaba Group Holding’s average Total Assets over the quarter that ended in Mar. 2020 was $187,576 Mil. Therefore, Alibaba Group Holding’s annualized ROA % for the quarter that ended in Mar. 2020 was 0.98%.
During the past 13 years, Alibaba Group Holding’s highest ROA % was 26.66%. The lowest was 9.78%. And the median was 13.03%.
ROA % is calculated as Net Income divided by its average Total Assets over a certain period.
ROA % measures the rate of return on the total assets (shareholder equity plus liabilities). It measures a firm’s efficiency at generating profits from shareholders’ equity plus its liabilities. ROA % shows how well a company uses what it has to generate earnings. ROA %s can vary drastically across industries. Therefore, ROA % should not be used to compare companies in different industries. For retailers, ROA % of higher than 5% is expected. For example, Wal-Mart (WMT) has ROA % of about 8% as of 2012. For banks, ROA % is close to their interest spread. A banks ROA % is typically well under 2%.
Fluctuations in the company’s earnings or business cycles can affect the ratio drastically. It is important to look at the ratio from a long term perspective. ROA % can be affected by events such as stock buyback or issuance, and by goodwill, a company’s tax rate and its interest payment. ROA % may not reflect the true earning power of the assets.
Many analysts argue the higher return the better. Buffett states that high ROA % may indicate vulnerability in the durability of the competitive advantage.
ROIC Growth
ROIC % measures how well a company generates cash flow relative to the capital it has invested in its business. It is also called ROC %. Alibaba Group Holding’s annualized return on invested capital (ROIC %) for the quarter that ended in Mar. 2020 was 17.47%.
As of today (2020–07–10), Alibaba Group Holding’s WACC % is 7.76%. Alibaba Group Holding’s ROIC % is 9.30% (calculated using TTM income statement data). Alibaba Group Holding generates higher returns on investment than it costs the company to raise the capital needed for that investment. It is earning excess returns. A firm that expects to continue generating positive excess returns on new investments in the future will see its value increase as growth increases.
Owner’s Earnings
Alibaba Group Holding’s Owner Earnings per Share (TTM) ended in Mar. 2020 was $3.72. Its Price-to-Owner-Earnings for today is 70.16.
During the past 13 years, the highest Price-to-Owner-Earnings of Alibaba Group Holding was 70.24. The lowest was 15.00. And the median was 45.32.
BABA’s Price-to-Owner-Earnings is ranked lower than 85% of the 492 Companies in the Retail — Cyclical industry.
What are the Owner’s Earnings?
In 1986 Berkshire Hathaway Shareholder Letter, Warren Buffett defined owner earnings as follows:
“These represent (a) reported earnings plus (b) depreciation, depletion, amortization, and certain other non-cash charges…less c) the average annual amount of capitalized expenditures for plant and equipment, etc. that the business requires to fully maintain its long-term competitive position and its unit volume (If the business requires additional working capital to maintain its competitive position and unit volume, the increment also should be included in c))…Our owner-earnings equation does not yield the deceptively precise figures provided by GAAP, since c) must be a guess — and one sometimes very difficult to make. Despite this problem, we consider the owner earnings figure, not the GAAP figure, to be the relevant item for valuation purposes — both for investors in buying stocks and for managers in buying entire businesses…All of this points up the absurdity of the ‘cash flow’ numbers that are often outlined in Wall Street reports. These numbers routinely include (a) plus (b) — but do not subtract c).”
To make it simple, you will have:
Owner Earnings per Share (TTM) = (Net Income + Depreciation, Depletion and Amortization + Change In Deferred Tax — 5Y Average of Maintenance Capital Expenditure + Change In Working Capital) / Shares Outstanding (Diluted Average)
IN SUMMARY
Alibaba Group is driven by a steady improvement in core commerce and strong cloud business. The company continues to benefit from strong growth in metrics. Further, Alibaba’s strengthening cloud business with its expanding customer base continues to drive its performance. The company’s New Retail strategy is also gaining momentum. This is aiding growth in Tmall Import, Freshippo fresh food grocery business and Intime Department Stores. However, higher costs associated with new initiatives remain a major concern. Also, COVID-19 related economic uncertainties and macro headwinds in China are major concerns. Also, rising competition for e-commerce and payment systems market share from companies such as Amazon, eBay, Tencent, Sea Limited, Paypal and Apple poses a risk. Whilst the company is thriving in the China environment, it’s hard to see them break out into the world stage.
Referred Sources:
Alibaba Group March Quarter 2020 and Full Fiscal Year 2020 Results, Alibaba Group Form 20-F, GuruFocus, SeekingAlpha and predictions made by the Author’s understanding of the company.
Disclosures:
This report contains independent commentary to be used for informational purposes only. The analyst/author contributing to this report does not hold any shares of this stock. The analyst/author contributing to this report does not serve on the board of the company that issued this stock. Additionally, the analyst/author contributing to this report certify that the views expressed herein accurately reflect the analyst’s/author’s personal views as to the subject securities and issuers.
