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Monday, June 7, 2021

Why Did Charlie Munger Buy Alibaba Stock

Readers probably already know that I'm heavy on Alibaba stock. Because I invested a large sum of my capital in this stock, I decided to research this company more. Charlie Munger, a close friend to Warren Buffett, has invested a large percentage of his portfolio in Alibaba stock. Charlie is a value investor, similar to Warren Buffett. Buffett has described Munger as his partner and "right-hand man."

I'm curious why Charlie Munger invests a large sum in Alibaba Group (Ticker: BABA). I decided to research the reason why he invested in that company. I'm pretty sure Charlie has a solid reason to invest in Alibaba. After all, he is more experience in investing compared to me. I want to make sure my investment in Alibaba is not a mistake. In this article, I will discuss the research I found to why Charlie Munger decides to purchase a significant stake in Alibaba stock. With this research, I can feel more comfortable investing a large portion of my money in this stock.  

The Journal's new holding

The company that the Daily Journal acquired shares of was Alibaba Group (NYSE: BABA). At the end of March, the holding company reportedly owned 165,320 shares in the Chinese tech company, giving it a 19% portfolio weight. The position was worth around $37.5 million.


This is now the third-largest position in the portfolio after Bank of America (BOA) and Wells Fargo (NYSE: WFC). These holdings were acquired during the financial crisis when Munger was able to snap up shares in the lenders at bargain-basement valuations.


This is only speculation, but it looks to me as if Munger was buying Alibaba stock in the first few days of 2021 when shares in the company fell to a low not seen since the middle of last year. He might have thought this opportunity was too good to pass up.

Why does Munger like Alibaba?

So why might Munger be interested in Alibaba? We don't know the exact answer to this question as of yet. However, we can speculate on why this billionaire investor might want to own the company when he owns so few stocks.


We know that Munger and Li Lu (Trades, Portfolio) are close friends. Li is one of the most successful value investors to rise to fame in China in recent years. He manages the $30 billion Himalaya Capital, which primarily focuses on long-term investment opportunities in Asia.


We don't know much about the stocks Li likes, as funds are not required to report non-U.S. stock holdings to the SEC. We only know about Himalaya's U.S.-listed equity holdings, reported on the firm's quarterly 13F report.

Investing in China's growth

One of Munger's favorite investments is Costco (NASDAQ: COST). He serves on the company's board, and as such, he knows a little about the retail industry and the advantages companies like Costco and Alibaba have over their competitors.


Further, over the years, Munger has repeatedly praised China for its transition in the past few decades. He has also honored the Chinese way of thinking that drives continuous improvement. He mentioned, "Nobody else has ever taken a big country out of poverty so fast and so long. And what I see in China now staggers me," China has managed to lift about 100 million impoverished people out of extreme poverty since 2012. Thus far, the country has eradicated extreme poverty, achieving the poverty eradication target set by the UN 2030 Agenda for Sustainable Development 10 years in advance.

Munger also commented that China has "behaved very shrewdly" in managing its economy, which has performed better than the U.S. He added that the momentum would probably continue. 


China reported a gross domestic product increase of 6.5 percent in the fourth quarter of 2020, bringing the country's full-year expansion to 2.3 percent. On the other hand, the U.S. economy contracted by 3.5 percent in 2020, the most significant drop since 1946. "There are factories in China that are just absolutely full of robots are working beautifully," Munger commented, while added that Chinese manufactures are "getting very skillful at operating."


Therefore, I don't think it's too unrealistic to say how Charlie was likely attracted to this company because it could be one of the best ways to invest in the Chinese tech sector for the long term.

Whenever Munger buys a stock, he believes with the view of holding forever. He wants to buy established market leaders with wide moats and a long runway for growth. Alibaba seems to have all of those qualities. Again, we can only speculate for now why Munger decided to buy the Chinese technology group, but I think it's likely we'll hear more from him about the position in the future.

One big question is why Munger has decided to buy now. He has been optimistic about China's prospects for a long time, and the stock was cheaper a couple of years ago. Something might have happened that has changed the value investor's perception of the business and its operating environment.

The case for Alibaba as a value stock

Alibaba's stock has languished somewhat recently despite delivering good results, so it's no wonder Munger might have thought the company a good value at today's prices. The recent controversy around founder Jack Ma and the aborted IPO for Ant Financial, which Alibaba holds a one-third stake, has likely played a role. Antitrust concerns in China have been an added drag. Furthermore, Alibaba is facing stiff competition in the e-commerce space from JD.com and the explosive discount-buying upstart Pinduoduo.


However, Buffett once quipped, "You pay a high price for a cheery consensus." Amid these concerns, Alibaba trades just around 25 times trailing earnings and under 19 times this year's earnings estimates. That's much cheaper than all of the FAANG stocks in the U.S., which is surprising given Alibaba's still strong growth rates and the growing middle class in China.

But Alibaba maybe even cheaper than that!

As is the case with several large technology conglomerates, Munger may be looking at various parts of Alibaba's sprawling empire and might have realized these parts add up to much more than Alibaba's current market value.


For one thing, Alibaba has a significant amount of cash on its balance sheet, along with large stakes in private companies like Ant Group as well as publicly traded companies. As of Dec. 31, 2021, its balance sheet included $47.8 billion in cash, $22.1 billion in short-term securities, $36.8 billion in other publicly traded equity securities, and another $28.4 billion in equity method investees, such as Ant Group. Those assets add up to $135.1 billion against just about $18 billion in short and long-term debt.


So while Alibaba currently sports a market cap of $580 billion or so, it's only about $500 billion when stripping out these net assets. That's very cheap compared with Alibaba's current operating income, which totaled $14.9 billion through the first nine months of fiscal 2021, good for nearly a $20 billion run rate.

It all adds up to a bargain, in Munger's eyes.

One could say Alibaba's core e-commerce operating income was almost $20 billion for the nine months ended in December, suitable for an annual run rate of around $26 billion. Against $500 billion in enterprise value, that's less than a 20 times EBIT multiple. And this is for a company that grew revenue 37% last quarter. That seems like a pretty good deal.


One particular reason to be bullish is Alibaba's cloud computing division. Last quarter, cloud revenue was up 50%, and that division also just recorded its first quarter of positive adjusted EBITA. Most think the cloud is in its relatively early stages, especially in China, so division likely has significant value in the future that hasn't contributed anything to overall company operating profits yet.


Yet even that operating income figure may underrate Alibaba's true earnings power. That's because the company is aggressively investing the significant cash flows from its core e-commerce platform into other parts of its operations. Alibaba is experiencing losses in many of its higher-growth businesses, including its local consumer services business, logistics arm Cainiao, Southeast Asian e-commerce firm Lazada Group, and its cloud computing and digital entertainment businesses. Over the past nine months, these cumulative losses decreased real operating income by about $5 billion, even though these divisions likely have significant positive value.


I hope this article explains why Charlie Munger had purchased a significant stake of Alibaba stock. After doing this research, I am more comfortable about my significant stake in Alibaba stock in my portfolio. I'm sure Charlie Munger has done his research before investing a large percentage of his portfolio in this stock. Besides, I'm lucky enough to purchase the stock at a lower price than Charlie had bought. From my research, I believe he bought Alibaba stock at $226/share while I bought this stock at $216.2/share. I'm very fortunate to be able to purchase the stock at a lower price than he does.


Just like Munger, I am going to hold this stock in my portfolio for the long run. I believe this can be an excellent investment that can potentially boost my portfolio performance. Let's see how it goes; hopefully, I'm right about my investment thesis. Check my blog portfolio page to keep track of my performance! This way, readers can know how my investment portfolio is doing.

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