Finding Riches in Alibaba’s Treasure Trove

Annual Report 2020

As a parent in Singapore, I don’t particularly look forward to September and October.  Why, it’s the final exams periods for most pre-tertiary schooling kids.  So I find myself more involved in the kids’ school work and revision in the lead-up to the final exams in October.  I spent more time reading the kids’ textbooks and revision materials, and reviewing assessment and examination papers to the neglect of my usual reading materials which include annual reports, and for that matter, financial statements and analyses.  Nevertheless I was able to squeeze time out to look into one company that has piqued my interest since a long time ago … Alibaba.

Introduction

Does anybody not know Alibaba, not the Alibaba of the 40 thieves fame but the Chinese tech titan, and its founder Jack Ma?  Very probably not.  

Alibaba with a market cap of about USD800 billion is one of Asia’s most valued companies.  Often referred to as the “Amazon of China”, Alibaba has the same growth trajectory as its American competitor.  Just like Amazon, Alibaba started off as an e-commerce platform linking merchants to buyers, and has over the years morphed into a much more diversified company with a considerable focus on technology.

Alibaba’s business is built on 4 main segments, namely, core commerce, cloud computing, digital media and entertainment and innovative initiatives.  Complementing these 4 main segments are the so-called “infrastructural elements of Alibaba Digital Economy” such as Alibaba Cloud, Ant Group, CaiNiao, FengNiao Logistics and Alimama.

Annual Report 2020

YueSin has done a very neat write-up on Alibaba’s business model on his blog, The Babylonians (link below*).  Check it out!  

Results and Ratios

In the quarter ended June 2020, Alibaba reported the following:

1. Total Revenue: UP 34% YoY.  The YoY increase in revenue was primarily driven by the robust revenue growth of Alibaba’s commerce retail and cloud computing businesses, up 34% and 59% respectively.  Revenue from digital media and entertainment business grew 9% YoY while innovation initiative business suffered a 6% loss YoY.  Overall, Alibaba has increased revenues every year since 2010. 

2. EBITDA (adjusted): UP 31% YoY.  RMB45.4 billion (2020) vs RMB34.6 billion (2019).  Compared to the March quarter, 2nd quarter adjusted EBITDA was up 50% (RMB25.4 billion in March).  Alibaba has increased EBITDA in 7 of the last 9 years

3. Non-GAAP Net Income: UP 27% YoY.  RMB39.5 billion (2020) vs RMB30.9 billion (2019).  However based on quarter to quarter result, 2nd quarter non-GAAP net income was up 77% from 1st quarter (RMB22.3 billion in March).

4. Non-GAAP Cash Flow: UP 39% YoY.  RMB36.6 billion (2020) vs RMB26.4 billion (2019).  As of March 2020, Alibaba was sitting on a huge pile of cash amounting to RMB359 billion (USD50 billion).  This cash position has grown 222% over the past 5 years (RMB112 billion in 2016).

5. Diluted EPS Growth: UP 67% YoY.  RMB6.99 (2020) vs RMB4.17 (2019).

6. ROE: 20.71% this quarter vs average ROE 20.63% (FY2019) and average ROE 14.89% (FY2018) [my criteria: above 15%].

7. ROA: 13.53% this quarter vs average ROA 12.83% (FY2019) and average ROA 9.04% (FY2018) [my criteria: above 5%].

8. Current Ratio (MRQ): 1.91 (my criteria: 2 and/or above).

9. PB Value (MRQ): 6.8, so Alibaba is overvalued … but not overly exorbitant, in my opinion.  Alibaba debuted on the HK Exchange in November last year at the offer price of HKD176.  I bought some Alibaba last month at HKD265.  Looking back, I wished I had invested in Alibaba when the price fell below HKD200 in March.  The lowest Alibaba went in March was around HKD170, not too far from my estimate of its intrinsic value at around HKD145.  Unless something terribly major happens in/to China or the world, I don’t think I will see the March lows again … that ship has very much sailed.

Based on these ratios and metrics, Alibaba is an excellent company to invest in.  This mega-cap’s core commerce business has been firing on all cylinders.  Its revenue grew 34%, its EBITDA surged 31%, and its annual active consumers grew 13% compared to a year ago.  

But is there still growth for Alibaba in the future?  Going forward, what is Alibaba’s growth story going to be like?  Which aspect of Alibaba’s growth story do I like?

Why Did I Buy Alibaba?

1. More growth in its Core Commerce Business

Just how much has Alibaba’s core commerce revenue grown over the years in China?  What about the growth figure in its active consumers and monthly app users?  The answer to these questions should give us an idea of what to expect of its core commerce business in the years to come.  

Well, over a 5-year period, Alibaba’s core commerce total revenue grew by a whopping 404%, its annual active consumers on its China retail marketplaces grew by a decent 72%, and the mobile MAUs on its various mobile apps that access its China retail marketplaces grew by a noteworthy 106%.  Alibaba has set a goal of having 1 billion annual active users contribute 10 trillion yuan (USD1.4 trillion) of transactions by 2023.

June Quarter 2020 Results
June Quarter 2020 Results
June Quarter 2020 Results

In the 12 months ended March 31, 2020, Alibaba operated, and still does, the largest retail commerce business in the world in terms of GMV, gross merchandise volume (Alibaba’s USD945 billion vs Amazon’s USD335 billion).  Alibaba’s China retail commerce is centred on the duo, Taobao and Tmall, which have become an important part of the everyday lives of consumers in China. 

Empowered by its commerce technologies and services, Alibaba appeals to a massive base of consumers, both in China and internationally, by connecting them with diversified and comprehensive offerings in a highly engaging and social format. 

This growth in Alibaba’s core commerce business in China is fuelled by the growth of the middle class which have increasingly available income for spending, and also urbanisation where people are moving to live in cities.

In 2000, only 4% of urban households in China was middle class; by 2012, that share had soared to 68%.  This number is expected to increase further, with McKinsey predicting the number to reach 550 million in 3 years (more than 1.5 times the entire US population today).**  

These urban middle class people are more likely to spend on discretionary goods and not just basic necessities, and also more willing to pay a premium even for quality.  Suffice it to say that Alibaba builds much of its success to this ever-expanding Chinese middle class, a segment of the population that is habituated to ordering anything and everything online using mobile apps.  This growth in the urbanised middle class and the corresponding rising income will ensure Alibaba’s e-commerce footprint in China will continue to grow in magnitude and profitability.  

I wonder what kind of sales figure I will be looking at come November 11, the Double 11 shopping festival also known as annual Singles Day?  In 2019, Alibaba reported sales activity totalling 268.4 billion yuan (38.4 billion US dollars).

Alibaba core commerce business still has plenty of room to grow. Internationally, Alibaba offers AliExpress, Lazada and others.  It is seeking expansion with its AliExpress marketplace for overseas buyers, Kaola.com for cross-border purchases, and Lazada in Southeast Asia.

2. Doing more with AI Technology

Alibaba’s mission is “to make it easy to do business anywhere”.  It uses technology to help merchants, brands and businesses to market, sell and operate and improve their efficiencies, and engage with their users and customers.  From here, from these listings and advertising fees on its market places, Alibaba generates most of its revenue.  

To reap the most out of its e-commerce platforms, Alibaba leverages on AI technology.  Hence, Alibaba is able to gain a comprehensive understanding of how to correlate diverse profiles of products and services with consumers’ needs.  Consequently, Alibaba is able to help its merchants streamline their daily operations, generate more accurate search results and recommendation feeds across its platforms, and offer better shopping experiences to its consumers.

One can only expect Alibaba to continue to leverage on AI technology and exploit big data to extract useful information and perform advanced analytics to enhance its business operations.

3. New Engine Growth with Cloud Computing

Closely linked to Alibaba’s Al technology is cloud computing for Alibaba’s AI moves could not be separated from the cloud.

Alibaba is the world’s third largest and Asia Pacific’s largest Infrastructure as a Service provider by revenue in 2019 in US dollars.  It is also China’s largest provider of public cloud services by revenue in 2019, including Platform as a Service, or PaaS, and IaaS services.  

Alibaba Cloud offers a complete suite of cloud services to customers worldwide, including elastic computing, database, storage, network virtualisation services, large-scale computing, security, management and application services, big data analytics, a machine learning platform and IoT services.

In 2019, prior to the 11.11 global shopping festival in 2019, Alibaba Cloud enabled the migration of the core systems of its e-commerce businesses onto its public cloud, hoping to encourage more customers to adopt its public cloud infrastructure. The public cloud infrastructure and technologies enabled Alibaba to process over 544,000 orders per second at peak and 970 petabytes of data without disruption for the full 24-hour period during the festival.

Just how much did Alibaba make from its cloud business?  In fiscal year 2020, its cloud segment brought in some RMB40 billion in revenue.  Over a 3 year period, Alibaba’s revenue from cloud computing grew a staggering 199%.

June Quarter 2020 Results

Alibaba estimates that internet companies spend 80 billion yuan (about USD11.4 billion) on information technology, while the public sector and other industries spend an additional 300 billion yuan (about USD43 billion).  Alibaba seeks to gain a bigger portion of that via its cloud business. 

And it’s well on its way, as revenue for cloud services grew 59% YoY to $12.34 billion (USD1.7 billion) in 2nd quarter this year.  There was an accelerated adoption of cloud services in the second quarter on the back of increased demand for online collaboration and remote working tools, e-commerce, remote learning and content streaming, as China emerged from Covid-19 lockdown.

In spite its revenue growth, Alibaba cloud is still making losses.  Alibaba expects its cloud computing services business, driven by demand from China’s fast-growing digital economy and strategic overseas expansion, to become profitable before its current financial year ends in March 2021.

Alibaba Cloud is certainly a force to be reckoned with. It has established a leading position in China, with almost 50% of the infrastructure-as-a-service (IaaS) market share.  Alibaba Cloud has a strong presence in several industries within China; including retail, e-commerce, government, logistics, manufacturing, and banking.  It is interesting to note that about 60 per cent of public companies listed on China’s A-share stock market is already Alibaba Cloud customers.  Alibaba offers over 240 vertical solutions that can potentially be rolled out globally. 

Alibaba Cloud counts more than three million customers located in more than 200 countries and territories.  It is also working with about 10,000 global partners to serve more than 350,000 business customers worldwide.

At its annual event Apsara 2020, Alibaba announced the launch Alibaba Cloud 2.0, and also the launch of WuYing, its first cloud computer.***  Alibaba Cloud 2.0 will be an all-in-one platform augmented by the company’s Apsara System and Digital Native Operating System (DNOS).  Alibaba cloud aims to make DNOS more user-friendly and intuitive so that more and more enterprises can easily migrate to the Cloud and run workloads without any expertise in coding.  Wuying is basically a smartphone-sized device that can be connected to a screen and achieve the functionality of a PC, thus allowing users to run their workloads in a Cloud environment.  How interesting!

Alibaba Cloud faces formidable domestic competition, which include the cloud services units of Tencent Holdings and Hwawei Technologies.

Cloud, continues to be Alibaba’s biggest growth motor, with the segment increasing over 60% in the last year.  Given that Alibaba has recently committed to investing over $20 billion in the coming years, one can only expect this growth to continue.

4. Collaborating with one Giant Ant 

The talk in town these days seems to be the jumbo IPO of fintech unicorn Ant Group.  Alibaba has bought a third of Ant Group, the online financial services behemoth controlled by none other than Jack Ma himself.

Ant provides payment services and offers financial services for consumers and merchants on Alibaba’s platforms.  Ant runs Alibaba’s popular Alipay mobile wallet which is very much synonymous with digital payments in China. Ant offers services for everything from payments to credit to insurance to investments within Alipay.  Ant counts more than a billion annual active users for the Alipay app and 711 million monthly active users. 

It is almost inconceivable that Alipay (Ant) and Alibaba part ways. The “synergy” between Alipay and Alibaba cannot be overemphasised.  Ant, together with Alibaba, is building the infrastructure for commerce and services.  Both companies work together by sharing insights  derived from their platforms, expanding cross-border efforts, and jointly serve both consumers and merchants. 

In 2019, Ant generated RMB120.6 billion (USD17.7 billion), up from RMB85.7 billion a year earlier.  This annual total consisted of RMB51.9 billion in digital-payments revenue, RMB 41.9billion in credit-technology revenue, RMB 8.9 billion in revenue from insurance technology and RMB 17 billion from investment technology. Ant became profitable in 2019, posting a non-IFRS profit (profit before accounting for equity-based compensation, royalty and service payments, gains on the disposal of subsidiaries, and some other items) of RM24.2 billion, a vast improvement from the lost of RMB 18.3 billion in the previous year.

Alibaba and Ant both need each other.  The synergy between Alibaba and Ant will see both companies grow in greater dimensions, revenue and profit.

Alibaba and Ant’s major competitor here will be the other tech titan, Tencents, which operates the WeChat Pay platform.  Just how strong a competition is Tencents (and the WeChat Pay platform)?  In the first quarter of 2020, Alipay’s market share fell to 55.4% from 82.6% in the third quarter of 2014.  On the other hand, Tencent’s WeChat Pay rose to 38.8% from 10.0% during the same period.  Other e-commerce companies such as Meituan Dianping and Pinduoduo accept only WeChat Pay.  

In China, WeChat is considered a super-app as it allows users to do a great number of purchases from booking a taxi to buying a movie ticket.  Ant needs to work with Alibaba to fight Tencent and other tech giants such as Meituan and JD.com.  For now, in other areas of financial transactions outside of retail spending, Ant is about 5 times larger than Tencent on loans under management, about four times bigger on assets under management on the wealth-management side, and about three times more on insurance partners.  The competition between the Ant/Alibaba and Tencent will be interesting to watch … literally the Clash of the Titans.

Conclusion

Investing in Alibaba is not without risks, such as the tension that exists between China and USA, and a great number of other countries in the developed world, the impression that as a Chinese company it has a less stringent financial reporting, the possibility of the Chinese government imposing anti-monopoly laws that will certainly put the squeeze on Alibaba’s market share, and even the undesirable consequences of being overly extended in its significant expansions across business lines and countries.

Well, for now, Alibaba looks like a worthy investment based on its past performance, moat, and future growth plans.  Investing in Alibaba means investing in eCommerce, cloud, AI technology and digitalisation, the growth engines of the future.  Beyond that, it’s about investing in China as well.  Regardless of what the western media says, growth and money will be coming from China in the next 10 years.  

Needless to say I will be holding on and adding to my initial investment in Alibaba. 

I’m excited to find out just how my investment in Alibaba will turn out in 10 years’ time.  

** https://www.cnbc.com/2019/09/30/chinas-giant-middle-class-is-still-growing-and-companies-want-in.html

*** https://www.cloudmanagementinsider.com/alibaba-cloud-enters-next-phase-with-cloud-2-0-new-cloud-os-first-cloud-computer/

Disclaimer: I am only an amateur investor and nothing you read here on my blog constitutes financial advice.  I write here to detail my investments, strategies, and analyses.  Feel free to read at your own risk.  Should you need financial advice, consult a licensed financial advisor.

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