Alibaba is the ultimate contrarian China bet

China Mobile

21/02/2024 12:00

(The author is a Reuters Breakingviews columnist.  The opinions
expressed are her own.)
    By Robyn Mak
       HONG KONG, Feb 21 (Reuters Breakingviews) - “If you
invest with us,” Jack Ma wrote in his inaugural letter to
shareholders in 2014, “you will be embarking on a journey with
Alibaba.” A decade on, the invitation from the Chinese
e-commerce group’s co-founder and former chairman reads more
like a warning. Following its New York stock market debut later
that year, Alibaba’s  9988.HK   BABA.N  market capitalisation
soared to reach $858 billion in 2020 only to tumble to below
$200 billion today. Blame over-expansion, regulatory crackdowns,
and slowing Chinese consumption. New boss Eddie Wu faces an
arduous journey of his own.
    
    A LOST DECADE
    It’s hard to imagine today that Alibaba was once worth more
than Amazon.com  AMZN.O  and Facebook owner Meta Platforms
 META.O . The company’s 80% share of China’s e-commerce market
and 50%-plus annual sales growth dazzled global investors hungry
for exposure to the country’s middle class. Silicon Valley had
no answer to Alibaba’s wildly popular Taobao and Tmall shopping
platforms, or its Alipay affiliate which pioneered mobile
wallets, digital banking, and wealth management.
    The $670 billion of market value lost by Alibaba over the
past three-and-a-half years is a rare recent example of a tech
superstar falling to earth. Smaller rivals at home have chipped
away at its dominance; analysts polled by LSEG forecast just
single-digit top-line growth for the next three fiscal years.
Meanwhile Ant, which operates Alipay, is worth just a quarter of
the $315 billion valuation it touted before Chinese financial
regulators torpedoed its 2020 initial public offering.
    Investors that bought into Alibaba’s 2014 offering have
pocketed a measly 10% total return; U.S. rival Amazon has
returned 943% over the same period. Alibaba’s New York-listed
stock now trades at just 8 times forecast earnings for the next
12 months, LSEG data shows, below state-owned industrial
dinosaurs like PetroChina  601857.SS  and China Mobile
 0941.HK .
    How did a company once seen as a consumer and technological
bellwether for the world’s second-largest economy lose its
shine? Lack of management discipline is partly to blame. Ma and
his successor Daniel Zhang extended Alibaba’s online shopping
empire into bricks-and-mortar retail, cloud computing,
entertainment, healthcare and more. As of March 2023,
the company’s balance sheet had expanded 15-fold since the IPO
to 1.75 trillion yuan ($244 billion). Yet as Alibaba expanded it
became less productive. It now generates just 50 cents of
revenue for every dollar of assets, down from 60 cents in 2014,
LSEG data shows.
    Many bets have soured. Alibaba’s earnings plummeted 77%
year-on-year to $1.5 billion in the most recent quarter
primarily due to mark-to-market losses on equity investments as
well as impairment charges relating to supermarket chain Sun Art
and its Youku video-streaming service.
    Meanwhile, nimble new entrants have challenged Alibaba’s
core business. PDD  PDD.O  won over thrifty shoppers in less
affluent Chinese cities while Douyin, the short video app owned
by TikTok parent ByteDance, has emerged as a
formidable e-commerce competitor. Alibaba’s market share in
online shopping at home is roughly 40%, per Insider
Intelligence. And it remains a laggard overseas, even as
retailers including PDD’s Temu and China-founded Shein
take Western markets by storm.
    Beijing also played a role. Ma’s infamous 2020 speech
criticising Chinese regulators led to Ant’s cancelled listing
and subsequent downsizing. The outspoken billionaire helped spur
authorities to clamp down on what senior leaders called the
private sector’s “barbaric growth” and “disorderly expansion of
capital”. In 2021, China’s antitrust watchdog fined Alibaba a
record $2.8 billion for abusing its market dominance.
    Meanwhile the pandemic and a property market crisis cooled
China’s economy. In January, the country reported the steepest
year-on-year decline in consumer prices since the global
financial crisis. Rising U.S.-China tensions have made investors
wary of companies that straddle the divide like Alibaba, whose
shares are listed in Hong Kong and New York.

    HARD RESET
    Alibaba’s initial response was to break itself into six
parts to give each business more autonomy while unlocking value.
Shareholders initially cheered, but China’s subsequent stock
market rout forced a rethink. Foreign investors have been net
sellers of Chinese equities for six consecutive months. U.S.
technology restrictions have darkened the prospects for a
standalone Chinese cloud and artificial intelligence business.
Sell-side analysts once pegged the unit as Alibaba’s most
valuable after e-commerce. But a recent sum-of-the-parts
analysis from China Merchants Securities ascribes a value of
just 55 billion yuan ($7.6 billion) to the cloud business, less
than 3% of the total.
    Weak and opaque governance has not helped. Internal power
struggles broke out following the separation of business units,
the Financial Times reported, citing insiders. One between Zhang
and Wu, an Alibaba co-founder, has been particularly disruptive.
In June, Zhang announced he would step down as group CEO and
chairman to lead the cloud unit; less than three months later,
he abruptly quit.
    Yet outsiders still have no insight as to who is in charge.
Alibaba is effectively controlled by a partnership that
nominates most of the company’s directors. Both Zhang and Ma,
who stepped down as chairman in 2019, are still members.
Bafflingly, Alibaba says Zhang is still contributing to the
company by “channeling his expertise differently” and has
committed $1 billion to a fund its former boss will establish.
    The status of Alibaba’s restructuring is equally unclear
after the company nixed the cloud spinoff and suspended the IPOs
of its logistics and grocery arms. Wu now heads the domestic
e-commerce and cloud businesses in addition to his role as group
CEO. He has promised significant and sustained investment in the
two divisions to revive growth, while the company plans to spend
$12 billion a year buying back its shares.
    Wu may have to prioritise, however. Alibaba’s operating net
cash flow fell 26% year-on-year to $9 billion in the December
quarter, while free cash flow shrunk by more than 30%. Moreover,
strict antitrust rules and regulatory scrutiny in China will
make it hard for the company to recapture lost market share.
    Ultimately, Alibaba’s fortunes are tied to those of the
Chinese consumer, just as they were a decade ago. Policymakers’
efforts to revive confidence and stimulate domestic consumption
are so far piecemeal. Gambling on an Alibaba turnaround is
therefore the ultimate contrarian bet on China’s economy. That’s
a journey many investors may not want to embark on.
    Follow @mak_robyn on X

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Graphic: Alibaba’s bloated balance sheet    https://reut.rs/48jgCJ7
Graphic: Alibaba’s market value has been eclipsed by US peers   
https://reut.rs/3uBRobj
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 (Editing by Peter Thal Larsen and Oliver Taslic)
 ((For previous columns by the author, Reuters customers can
click on  MAK/   
robyn.mak@thomsonreuters.com; Reuters Messaging:
robyn.mak.thomsonreuters.com@reuters.net))