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Monday, May 24, 2021

I'm Now Heavy on Alibaba Stock

Since peaking in October 2020 at over $300 per share, Alibaba (Ticker: BABA) has lost approximately one-third of its market value. Alibaba stock price is currently trading at the $210-$220 range as of May 2021. The stock price caught my attention to take further research of the company. I became attracted to the company due to the fundamental and solid financial statement of the company.

Alibaba Group Holding Limited, through its subsidiaries, provides online and mobile commerce businesses in the People's Republic of China and internationally. It operates through four segments: Core Commerce, Cloud Computing, Digital Media and Entertainment, and Innovation Initiatives and Others. The company operates Taobao Marketplace, a mobile commerce destination; Tmall, a third-party online and mobile commerce platform for brands and retailers; Alibaba Health Internet platforms for pharmaceutical and healthcare products; Alimama, a monetization platform; 1688.com and Alibaba.com, which are online wholesale marketplaces; AliExpress, a retail marketplace; Lazada, an e-commerce platform; and Tmall Global, an import e-commerce platform.


On May 20, 2021, I decided to sell all my other positions in my portfolio and use the money to purchase Alibaba stock. I bought 3200 shares of Alibaba stock at $216.20, making this the most prominent position in my portfolio. As for now, my portfolio is very concentrated, holding only two stocks. I know readers might ask why I sold all my other stock positions and holding only two stocks now. In addition, Alibaba is not a stock that pays out a dividend. This is because I see an excellent opportunity that makes me decide to change my investing style. In this article, I will explain why I'm heavy on Alibaba and why I think this is an excellent investment. Moreover, I will talk about the recent earnings results, the stock setup going forward, a valuation update, and the critical risks in the investment.

Earnings Report Highlights

The latest quarterly results showed Alibaba's core business continues to provide higher revenues and higher profits. All key metrics are growing at a double-digit rate. Annual active users and monthly active users grew by 32 and 23 million, respectively. This means that as e-commerce continues to take market share, more people continue to flock to the Alibaba ecosystem. This indicator suggests the business keeps adding new users, which is undoubtedly a positive factor for the stock. In addition, Quarterly total revenue growth was 64% over the prior year, driven by inorganic growth due to acquisitions and organic growth. Organic growth was roughly 40% over the preceding year. This is also a positive as it shows the business continues to grow at strong rates and reaping the benefits of recent acquisitions.


Furthermore, quarterly adjusted EBITDA grew by 18% over the prior year, and its growth rate stands at 25% over the trailing twelve months. Although 18% of EBITDA growth is relatively high compared to most other businesses, the deceleration is not ideal. This implies lower profit margins as it is tracking lower than revenue growth.


The last quarter was unique because it included a hefty fine from the State Administration for Market Regulation of the People's Republic of China due to monopolistic behavior. After a lengthy investigation, the government fined Alibaba approximately $2.8 billion due to engaging in monopolistic tactics that suppressed competition. The fine caused Alibaba to report a rare operating loss. Unlike many fast-growing companies, Alibaba does not typically report operating losses because the company is very profitable.


In my opinion, I believe this fine on Alibaba is a critical factor that explains why Alibaba stock has been declining. Receiving a hefty fine from the government is not a good thing. However, I do not believe the penalty is a big deal when considering the company's ability to make much money. If considering the company's ability to generate income, the fine is only 2.5% of global revenues and less than 1% of enterprise value. Relative to the size of Alibaba, this fine is a small potato.


In addition, the fine is technically a one-time expense that will not probably repeat itself in the future. This means Alibaba will be reporting an operating profit next quarter. I feel very safe about this company because of the cash balance on its balance sheet. The company is sitting on more than $49 billion of cash, meaning the fine will be quickly paid and won't break the company's pocket.

Attractive Financial & Valuation.

Analyzing the current price of Alibaba, I find it very difficult to believe that the company is not undervalued. Alibaba's revenue growth rate has been variable over the years, but it has always been strong. For example, in FY16 (ended March), revenue grew 28%, the lowest over the past eight years, while FY18 saw revenue growth of 71%.


Alibaba's EPS growth has similarly been highly variable but always positive over the past eight years. For example, in FY19, EPS grew only 8% while the previous year saw a 52% growth rate. Given the heightened investments as discussed earlier, FY22 EPS is expected to remain flattish from FY21 levels. After FY22, Alibaba should be able to grow EPS at 20% a year or higher.


Despite heavy investments in new strategic businesses, Alibaba remains highly profitable. In FY21, the company generated a 24% EBITA margin, which is expected to reach a trough of 19% in FY22 before improving in the future.


Heavy investments obscure how profitable Alibaba's core businesses are. For example, I estimate Tmall and Taobao generate around a 57% EBITA margin. Furthermore, despite heavy investments, the company's free cash flow has improved every year since at least FY15 and is expected to grow in FY22 and from now on.


In addition, I like using the valuation method of EV/EBITDA because it eliminates biases from different tax bases and capital structures. Since Alibaba is mainly a Chinese company, this valuation method compares to the other U.S. listed companies.


Using the actual EBITDA of $30.04 billion over the TTM, the current stock price implies an EBITDA multiple of 18.7x. For a business that is growing at double-digit rates, the multiple seems relatively cheap. 


Given Alibaba's robust, profitable, and rapidly growing businesses, the company is trading at an incredible value. On a forward twelve-month basis, BABA is trading at only 21 P/E, which is in line with the S&P 500, and offers a remarkable 5.6% free cash flow yield. Both P/E and free cash flow yield metrics are near their 5-year low.

Cheap Comparing to Its Competitors

Compared to its overseas twin Amazon, Alibaba trades at a compelling valuation on nearly all relevant metrics. Here, the company trades at a P/E ratio of just 26 times, which is less than half of Amazon's current P/E. The company's both have comparable growth rates and gross margins and operates in pretty much the same segments.


As demonstrated, Alibaba has seen the highest revenue growth of the bunch over the past three years and has the lowest PE ratio. The last column helps to illustrate the vast discount at which BABA is currently being sold. Some of the other companies have indeed shifted their focus toward profitability rather than break-neck growth, but the fact remains that Alibaba stands out as by far the cheapest tech giant shown in terms of growth and earnings.

Discount Cash Flow Analysis

I did a simple discounted cash flow analysis on Alibaba. Using a DCF calculator on Gurufocus, I was able to find the fair value of Alibaba. I use a discount rate of 15% and applying a 20% growth rate for the next ten years. I was able to get a fair value of $275.34 for Alibaba stock. This is a margin of safety of 23.35% from the current price. Applying a 20% growth rate to the future value of Alibaba is very conservative since the company generated a 32% growth rate in the past five years.


I feel safe about this investment because I am purchasing Alibaba as an investment that provides a considerable margin of safety. In addition, I am also assuming a conservative growth rate towards the future. I'm very confident that Alibaba can give the growth rate that I am expecting.

Charlie Munger New Position on Alibaba Stock.

Recently, Munger and company turned some heads when the Daily Journal disclosed a $37 million stake in Chinese e-commerce giant Alibaba Group Holding (NYSE: BABA), suitable for 19% of the company's equity portfolio, making it the company's third-largest position behind Bank of America and Wells Fargo. I did my research and found out that Charlie bought Alibaba at $226 per share. The price which he purchased is higher than my purchased price of $216.90.


When I'm informed that Charlie Munger had purchased a huge stake in Alibaba stock, I am confident that the stock is a great buy now. I'm sure that Charlie bought Alibaba because it's a great company, and the price is a bargain at the current level.

My Conclusion

Making a move I did of selling all my other stock positions from my portfolio is the right thing. I'm currently holding only two stocks in my portfolio: Alibaba Group (Ticker: BABA) and Pfizer Inc. (Ticker: PFE). Alibaba makes up 61.75% of my portfolio, while Pfizer Inc. makes up 38.25% of my portfolio. I'm very confident that purchasing Alibaba into my portfolio is the right move. I'm not sure when the price of Alibaba will go up since I can't time the market, but I'm sure that I bought Alibaba at a discounted price. I hope this article tells my reasoning as to why I am all in on Alibaba stock. This is one of the most significant moves that I made in my life. Let's see how my portfolio will turn out.

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