Alibaba Group: A Fairly Valued Investment Despite Mixed Perceptions
Introduction
Many investors are drawn to Chinese stocks, including Alibaba Group Holding Limited (BABA), in anticipation of multiple expansions. However, a closer examination reveals that Alibaba may not have significant potential for such growth due to several factors.
Misconceptions about Alibaba
Misconception 1: Direct Stake in Alibaba
Most Alibaba investors hold American Depositary Listings (ADRs), which represent variable interest entities (VIEs) rather than direct equity in the Chinese company. This structure limits ownership rights and exposes investors to potential risks.
Misconception 2: Participating in China’s Growth through Cayman ADRs
While Cayman-listed companies like Alibaba provide some exposure to China’s growth, they do not reflect the performance of the broader Chinese equity market. The CSI 300 index, which includes companies traded on the Shanghai and Shenzhen exchanges, is a more accurate representation of China’s economy.
Misconception 3: Profit Sharing Guarantees Success
Although investors in VIE structures receive a share of Alibaba’s profits, they do not have ownership rights in the underlying company. This means that they are subject to the terms of the profit-sharing agreement, which could change in the future.
Financial Analysis
Alibaba’s balance sheet is healthy, with more cash than debt. However, its long-term debt has been increasing, which requires monitoring.
Alibaba’s capital allocation metrics are below average compared to peers. Its ROIC and ROIC-WACC spread are low, indicating that the company is not creating significant value with its investments.
Despite announcing share buybacks, Alibaba’s EPS growth has been slowing in recent years. This limits the potential for multiple expansion.
Competitive Landscape
Alibaba faces intense competition from rapidly growing companies like PDD Holdings Inc. (PDD) and MercadoLibre. These competitors are expanding their market share, particularly in international e-commerce.
Valuation
A reverse discounted cash flow (DCF) analysis suggests that the market is pricing in an EPS CAGR of 12% for Alibaba. However, the company’s historical EPS growth rate is lower. While the buyback program could boost EPS, the market’s expectations may be overly optimistic.
Considering Alibaba’s growth prospects and risks, particularly the VIE structure, its P/E ratio of 12.5 appears fair. US companies with similar characteristics would likely command a higher multiple due to a lower risk profile.
Conclusion
While Alibaba remains a high-quality company, its potential for significant multiple expansion is limited. The VIE structure, slow growth, and competition pose challenges to its investment thesis. BABA is currently considered fairly valued based on its risk profile and growth prospects.
