Why Alibaba's Valuation is Overlooked

Joe Wong, Dealer

Joe Wong is a seasoned investor with over 15 years of experience in both the financial markets and entrepreneurial ventures. A Macquarie University alumnus with a Bachelor’s degree in Applied Finance from Australia, Joe is a staunch advocate in the Value Investing approach.

His portfolio management strategy focuses on identifying undervalued companies with strong fundamentals. This disciplined approach has consistently yielded double-digit returns on his own portfolio. Despite his investment track record, Joe maintains a strong appetite for knowledge and remains an avid reader.

Smart money often chases obvious targets. While tTraditional stalwarts like Apple and Microsoft often dominate the spotlight and command constant attention, leaving extraordinary opportunities hidden in plain sight, non-traditional players such as Alibaba emerges as one of the market’s most compelling yet overlooked value plays.

Market sentiment often fails to capture the full picture. Conventional metrics and index movements dominate investment conversations, creating a myopic view that misses transformative opportunities. The disconnect between Alibaba’s fundamental strength and current market valuation tells a fascinating story of untapped potential.

Seasoned investors recognise that exceptional returns demand looking beyond the obvious. This analysis cuts through market noise to reveal why Alibaba deserves serious consideration. We will dissect the company’s robust business model, examine its overlooked value drivers, and demonstrate why portfolio managers fixated solely on traditional blue-chip stocks risk missing a rare opportunity for strategic diversification.

Therefore, is Alibaba purely a value trap or genuine undervaluation? Let’s find out!

Source: Bloomberg

Alibaba’s evolution has been nothing short of transformative. From its humble beginnings as a B2B platform in 1999, the company has engineered China’s largest e-commerce ecosystem, churning in revenues in excess of USD 33 billion in the latest quarter. With a bold ambition to reach over 1 billion annual active consumers by the end of 2024, Alibaba’s strategic growth remains unmatched^[1].

Evolution of Alibaba’s ecosystem

Alibaba’s expansion is marked by strategic brilliance at every stage. Taobao’s launch revolutionised consumer behaviour in China, while Tmall’s introduction captured the premium retail market. Today, Alibaba stands as a testament to ecosystem mastery, encompassing:

• E-commerce titans, Taobao and Tmall
• Cutting-edge cloud computing infrastructure
• Alipay’s digital payment dominance
• Cainiao’s sophisticated logistics network

These services collectively position Alibaba as a one-stop solutions platform, catering to both Chinese and international merchants and consumers. But has the company truly succeeded in creating a seamless, self-sustaining ecosystem?

Source: Alibaba Q22024 Report

Alibaba’s numbers reveal the breadth of its operations.  Domestic e-commerce retail powers a majority of its business^[1], while Cloud computing, together with logistics services and international ecommerce also contribute a significant portion of its income source.

Strategic diversification elevates Alibaba beyond traditional e-commerce boundaries. The company’s seven distinct segments generate a combined USD 139 billion in fiscal year 2024, showcasing a business model that defies simple categorisation.

Source: Alibaba Q22024 Report

However, if we take a closer look at Alibaba’s latest 2Q2024 (fiscal year 2025) revenues, we note that the revenues for its largest contributors, Taobao and TMall dipped by 10% quarter-on-quarter.

This dip reflects intensifying competition from both domestic players like JD.com and international challengers such as Shopee, which have aggressively pursued client acquisition strategies.

Price-to-Earnings (P/E) Ratio Analysis

Source: Stockanalysis.com

Data speaks volumes. Alibaba commands a trailing P/E ratio of 17.79, while its forward P/E ratio sits at an even more compelling value of 9.55^[1]. Market disconnect becomes apparent when we compare these figures to the MSCI Emerging Markets Index’s forward P/E of 15.25^[2]. The PE provides an indication that the current share price of Alibaba is fairly priced to date.

Despite these metrics suggesting fair pricing, investor reluctance remains high. This hesitance likely stems from the competitive pressures Alibaba faces, which cast uncertainty over its future growth trajectory.

Balance sheet strength emerges through critical metrics:

• Current Book Value per Share: USD 55^[1]
• Price-to-Book Ratio: 1.53
• Book Value Growth Rate (5-year average): 13.7% per year
• Debt-to-Equity Ratio: 19.30%

Alibaba is also trading close to its Book Value and has a low debt-to-equity ratio, indicating a healthy balance sheet, with current market valuation close to its asset valuation.

However, despite these strong fundamentals, investors appear to be focused mainly on the company’s growth prospects rather than the company’s strong financial health.

Therefore, it is important to discern if the market could be wrong in the long term and whether Alibaba could navigate itself out of the intense competition in the long run.

Source: Alibaba Group website

Cash flow figures affirm Alibaba’s capacity for long-term value creation. For Q2 2024:

• Operating Cash Flow: USD 4.48 billion (3 months) and USD 9.2 billion (6 months)^[1]
• Capital Expenditures: -USD 2.4 billion (3 months) and USD 4.1 billion (6 months)
• Free Cash Flow: USD 1.9 billion (3 months) and USD 4.4 billion (6 months)

With a 6-month capital expenditure-to-revenue ratio of just 6%, Alibaba’s operations demonstrate efficiency and low reinvestment requirements. The free cash flow of USD 4.4 billion over six months supports the argument that Alibaba could evolve into a cash-generating powerhouse in the long run.

Further bolstering this outlook is the Enterprise Value to EBITDA ratio of 8.79, which highlights Alibaba’s potential for significant upside, especially considering its market dominance and diversified growth strategies.

The regulatory environment in China has undergone profound changes in recent years, with Alibaba at the centre of the storm. Alibaba’s three-year ‘rectification’ journey marks a watershed moment in Chinese corporate governance^[1], transforming both company operations and investor perceptions.

Alibaba’s billion dollar antitrust fine^[1] sent shockwaves throughout the global markets but also marked a turning point. The State Administration of Market Regulation’s recent praise for Alibaba’s compliance efforts^[2] signals a potential new chapter in corporate-regulatory relations, opening doors for renewed corporate growth.

Outside China, Alibaba faces a host of regulatory challenges:

• European GDPR compliance demands
• Cross-border data protection mandates
• Intensified financial oversight and heightened scrutiny from global regulators^[1]

In the US, regulatory hurdles include stringent audit requirements and semiconductor export restrictions. These challenges test Alibaba’s strategic agility, but its adaptability in managing global complexities positions it well for future growth.^[2]

Alibaba’s market capitalisation experienced a 72% decline following November 2020’s anti-monopoly rules. This drop has yet to see a strong recovery due to increased competition in its business landscape since 2020.

However, amidst these challenges lies opportunities.

The Chinese authorities have recently shifted focus toward bolstering private sector confidence, signalling potential for multiple expansion. Experienced market participants understand the significance of regulatory clarity—it often acts as a precursor to value recovery.

Alibaba’s growth trajectory is driven by three pivotal catalysts. These initiatives represent untapped potential, yet the market has been slow to recognise their transformative implications.

  1. Cloud Computing Expansion

Source: Alibaba Group Website

Alibaba Cloud stands as a testament to strategic execution. With USD 8 billion in revenue for the six months ending September 2024, cloud operations now account for 11.3% of total sales.^[1] This growth signifies Alibaba’s transition from a pure e-commerce entity to a tech powerhouse, highlighting its technological dominance.

2.  International Market Penetration

Alibaba’s global ambitions materialise through strategic investments in infrastructure. Data centres in key locations, such as Mexico, Malaysia & South Korea, Thailand, and the Philippines, represent more than simple expansion—they demonstrate Alibaba’s localisation strategy.^[2]:

By tailoring mobile-first architectures to markets with high smartphone penetration, Alibaba ensures adoption and relevance in diverse regions. This level of precision showcases its adaptability and global reach.

3.  Technology Innovations Pipeline

Innovation defines Alibaba’s technological DNA. The Qwen AI model is reshaping competitive landscapes^[3], while strategic partnerships with giants like Nvidia are accelerating advancements in autonomous mobility.

With 300,000 customers already utilising its Model Studio platform, Alibaba is on an exponential adoption trajectory, setting the stage for future growth. The continued drop in data storage and computing costs positions the company to capitalise on multiple expanding markets.

Market wisdom often hides in plain sight. Alibaba exemplifies this reality– a sprawling digital empire encompassing e-commerce, cloud computing, and financial technology, yet undervalued by current market prices that fail to fully appreciate its potential. With a forward P/E ratio of 9.5x, robust free cash flow generation, and fortress-like cash reserves, Alibaba paints a clear picture of financial resilience and strength.

The regulatory storms have cleared, revealing a brighter horizon. Meanwhile, Alibaba’s cloud computing dominance and its international market penetration promise exponential growth opportunities ahead.

Emerging market exposure does not need to compromise fundamental strength. Alibaba’s technological arsenal – from cutting-edge AI initiatives to strategic global expansion – forges a unique value proposition. Fortune favours the bold. Alibaba offers a unique opportunity—beyond the usual suspects of market attention, it stands poised to deliver exceptional returns that outshine routine market performance.

Based on the discounted earnings model, my estimated long term growth rate for the company stands at 3% with an expected return of 8.5%, aligned with Alibaba’s latest WACC (Weighted average cost of capital). I estimate its intrinsic value to be HKD 175 per share.

As of the time of writing, Alibaba’s latest closing price stands at HKD 84.35, trading at a 52% discount to its intrinsic value. This presents an attractive margin of safety for long-term investors who believe in Alibaba’s ability to navigate competitive challenges and capitalise on its strengths in the years to come.

Alibaba’s unique combination of growth momentum, financial stability, and undervalued market position offers a rare opportunity for portfolios seeking both value and growth in an increasingly dynamic global market.

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One of the key benefits of using an SDR is the convenience of settling transactions in SGD. Additionally, investors can buy shares in smaller quantities of the underlying shares, making it more accessible for those who wish to invest incrementally.

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[1] – https://www.investopedia.com/articles/investing/121714/how-does-alibaba-make-money-simple-guide.asp
[2] – https://www.statista.com/statistics/298817/alibaba-revenue-distribution-segment/
[3] – https://chozan.co/blog/inside-the-alibaba-ecosysytem-and-the-alibaba-zoo/
[4] – https://asiafundmanagers.com/us/us-vs-china-comparing-big-tech-from-an-investment-angle/
[5] – https://www.untaylored.com/post/the-business-model-and-revenue-streams-of-alibaba-explained
[6] – https://www.alibabacloud.com/blog/the-evolution-of-online-analytics-from-alibaba-economy-ecosystem-to-the-cloud_597348
[7] – https://stockanalysis.com/stocks/baba/statistics/
[8] – https://alaricsecurities.com/is-baba-stock-a-smart-buy-or-a-pass/
[9] – https://www.gurufocus.com/term/pb-ratio/BABA
[10] – https://finance.yahoo.com/quote/BABA/key-statistics/
[11] – https://www.reuters.com/markets/asia/key-events-during-chinas-regulatory-scrutiny-alibaba-2024-09-02/
[12] – https://www.scmp.com/tech/big-tech/article/3276580/alibabas-antitrust-review-comes-close-after-3-years-government-scrutiny
[13] – https://fastercapital.com/topics/challenges-faced-by-alibaba-in-global-markets.html
[14] – https://finance.yahoo.com/news/alibaba-remain-under-pressure-until-200322350.html
[15] – https://www.reuters.com/technology/alibabas-hong-kong-shares-set-open-up-15-split-up-plans-2023-03-29/
[16] – https://www.linkedin.com/pulse/alibabas-global-expansion-examining-jack-mas-dr-sasidharan-murugan-b3gbc
[17] – https://www.forbes.com/sites/gurufocus/2024/10/15/alibaba-still-has-room-to-run-how-chinas-stimulus-drives-growth/
[18] – https://www.cnbc.com/2024/05/23/alibaba-bets-on-ai-to-fuel-cloud-growth-as-it-expands-globally.html
[19] – https://www.alizila.com/alibaba-cloud-expands-data-center-network-and-global-gen-ai-offerings/
[20] – https://www.linkedin.com/pulse/whats-next-pipeline-alibaba-cloud-why-ai-transform-dreic
[21] – https://seekingalpha.com/article/4725677-alibaba-ai-and-cloud-drives-future-growth-initiate-with-buy
[22] – https://hbr.org/2018/09/alibaba-and-the-future-of-business
[23] – https://finance.yahoo.com/news/why-alibaba-group-holding-limited-160940631.html
[24] – https://www.macroaxis.com/invest/technicalIndicator/BABA/Sortino-Ratio
[25] – https://www.fool.com/investing/2024/08/12/2-reasons-to-be-bullish-about-alibaba-stock/
[26] – https://www.tipranks.com/news/alibaba-stock-nysebaba-exploring-the-value-in-its-diverse-segments
[27] – https://finance.yahoo.com/news/understanding-alibabas-market-position-financial-140004424.html
[28] – https://valueinvesting.io/BABA/valuation/wacc

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