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I wrote an earlier article on Alibaba (BABA) which can be found here. The stock has fared rather poorly since then, falling 18%. The situation was exacerbated by the sell-off of Chinese ADRs on Thursday, which I will discuss below.
Investment dissertation
However, I’m starting to really like Alibaba’s risk reward and so I’ll list my investment thesis as shown below:
1. Trade in China. One of Alibaba’s most valuable assets is its huge consumer base of 950 million users, spending $1,300 annually, which could further monetize or help scale its other new platforms.
2. International Commerce: This business is easy for Alibaba as it has a reproducible strategy and a strong moat as well as logistics capabilities to compete with international e-commerce brands in international markets.
3. Cloud: Alibaba is likely to remain a leader in China’s rapidly growing cloud computing market and continue to seek international markets to grow. better products while reducing reliance on third-party vendors.
4. Investing in Future Growth: Alibaba is reinvesting its incremental profits into its strategic business lines, which I believe is necessary to ensure Alibaba can compete and beat competitors. In addition, Alibaba is continuing its M&A strategy of acquiring new businesses to capture future opportunities or add value to existing businesses.
What’s happened
During US trading on Thursday, we saw a very wide sell-off in Chinese Internet ADRs that ranged from 8% to nearly 20%. I believe this was due to the deterioration in investor sentiment for Chinese ADRs in general due to updates to the US Securities and Exchange Commission website on the provisional list of issuers identified under the Foreign Company Liability Act (HFCAA).
In particular, the US Securities and Exchange Commission website has updated the preliminary list of identified issuers, including BeiGene (BGNE), Yum China (YUMC), Zai Lab (ZLAB), ACM Research (ACMR) and HUTCHMED China (HCM). Company Liability Act (HFCAA).
Under the HFCAA, the Public Company Accounting Oversight Board (PCAOB) is responsible for determining whether it is unable to conduct a full review or investigation of a registered public accounting firm or a branch or office of such firm because of the position taken by the authority. to a foreign jurisdiction. The Commission’s role at this stage of the process is solely to identify issuers that have used such accounting firms identified by the PCAOB to audit their financial statements. The pre-determined date is March 8, 2022, and the date by which the issuer can provide evidence refuting the identification is March 29, 2022.
In addition, at 00:30 AM on March 11, China Securities Regulatory Commission responded to a reporter’s inquiry. He commented on his website that he considers SEC updates to be normal post-HFCAA procedures. The CSRC stressed that it respects the efforts of overseas regulators to tighten rules on related accounting firms to improve the quality of listed companies’ financial information, but the CSRC is strongly opposed to some parties politicizing securities rules. The CSRC will insist on openness and cooperation and is willing to resolve related U.S. regulatory investigations into accounting firms through regulatory cooperation.
It also states that Chinese regulators have recently communicated with the Public Company Accounting Oversight Board (PCAOB) with positive progress. CSRC believes that through joint efforts, both parties will make decisions in line with the legal and regulatory requirements of the two countries to protect global investors and support the healthy and stable development of the markets of the two countries.
As such, I am of the opinion that the SEC update is not really new news and there is no real risk of an ADR delisting in the near future, but rather it will be a 2024-25 issue if companies do not disclose the requirement. on behalf of the SEC for three consecutive years.
In addition, issuers such as Alibaba are required to provide certain additional disclosures when filing their annual return starting in the fiscal year 2022 reporting period. April 30, 2023 And only if companies do not disclose the requirement to file three consecutive filings (2022-2024 annual report) will they no longer be challenged under the requirement set by the SEC. However, it appears that legislation may be moving forward in the US Congress that could reduce the three-year grace period to two years.
Thus, this is a good opportunity to buy large-cap ADRs that are already dual-listed in Hong Kong, such as Alibaba.
Multiplatform Growth Strategy
Looking at Alibaba’s Q3 2022 results, I believe we see key strategic investments as part of the company’s multi-platform growth strategy are helping Alibaba further expand its user reach, especially in less developed rural areas.
First, with Taobao Deals, it reached a total of 280 million annual active consumers (AAC), up nearly 39 million from the previous quarter, while paid orders on Taobao Deals rose strongly by more than 100 % on an annualized basis.
Second, with Taocaicai, the community marketplace business increased GMV by 30% qoq. Based on comments from Alibaba management, Taocaicai’s per-order economy continued to improve. This was due to a higher density of regional orders and an increase in gross margin due to increased supply chain capacity.
Third, Alibaba continues to work to build a highly digital supply chain and meet diversified demand within its 979 million AACs in China with 1) 30 minutes to 1 hour delivery via Ele.me, Freshippo and Taoxianda; 2) same/next day groceries delivery via Tmall supported by Cainiao; and 3) next day delivery to community pickup locations using the community marketplace (CMP) model for best value cohorts in lower tier cities.
Sustained User Growth in the Alibaba Ecosystem (Questmobile)
Diversified growth in the cloud
Although cloud competition revenue was 19.5 billion yuan, up 20% year-on-year, this compares with 33% and 50% year-on-year performance in the quarter and a year earlier. The slowdown was mainly driven by Bytedance’s decision to stop using overseas Alicloud cloud services for its international business and a slowdown in demand from customers in the Internet vertical such as online entertainment, education and gaming. The business was partly supported by growth in the financial and telecommunications industries.
Excluding Bytedance revenue, cloud computing revenue grew 29% year-on-year. While it appears that Alibaba’s cloud computing revenue has been growing at the slowest pace, I believe we are seeing a gradual movement of the cloud business towards a more diversified revenue stream. This means that the contribution of non-Internet industries will steadily increase to 52% of Alibaba’s cloud revenue. On the other hand, industrial digitalization will require huge computing power, so it is necessary to use powerful data analysis capabilities, and this is where Alicloud excels.
grade
Based on my previous article, I created a financial model for the Alibaba Group using what I think are fairly conservative projections. I have applied a holding company discount of 25% with other assumptions shown in the table below. Based on the SOTP valuation, I set Alibaba’s price target at $182, which implies 96% upside potential from current levels.
Again, I emphasize that this is based on conservative numbers, and there are many others that model more optimistic numbers, but I prefer to have some margin of safety in my numbers.
Alibaba SOTP Target Price (created by the author)
Summary
Alibaba is currently trading on very negative sentiment, not only due to regulatory uncertainty in China and the recent SEC delisting news. However, I am of the opinion that now is the time to become a counter investor for Alibaba as the downside is quite limited and thus the stock has a huge margin of safety.