Last year was a very tough one for Chinese equities, with the Chinese government’s crackdown on Big Data intimidating international investors.
Starting from the ban on for-profit tutoring, which resulted in shares of New Oriental Education (EDU) and TAL Education Group (TAL) losing more than 90% of the value they had in their past highs, to the various fines the government imposed on Alibaba (BABA), it’s not a mystery why China-based stocks suffered in 2021.
Alibaba, more specifically, lost nearly half its market cap year-over-year. However, the interesting part of its investment case is that during this time, its financials continued to grow, leading to the stock currently trading at a steep discount.
On the one hand, I can see why the ongoing risks attached to Chinese equities, including lack of clear communication with shareholders, nonnative corporate governance culture, and the VIE structure, amongst others, can deter investors from allocating capital to the stock.
On the other, BABA stock has become increasingly cheaper, and the situation has become increasingly harder to ignore. I believe that Alibaba’s growing financials in the company’s upcoming earnings through 2022 will be a strong driver in a potential valuation multiple expansion. For this reason, I am bullish on the stock.
Growing Financials
While risks with Alibaba’s investment case exist, the company has been growing rapidly with little to no signs of slowing down. The company’s most recent results apparently affirmed Alibaba’s resilience, despite the rough environment surrounding Chinese equities.
Revenues grew 29% to $31.1 billion, with Alibaba’s worldwide Ecosystem reaching about 1.24 billion annual active consumers. This implies 62 million net user adds compared to the prior quarter.
EPS per ADS came in at $1.74, 38% lower year-over-year, but this was only due to Alibaba’s increased investments in key strategic areas, which should result in robust ROE over time, as has been the case historically for the company.
If Alibaba were to soften its CAPEX investments, the company’s net margins could very well surpass 30%. Even the highest-margin American tech companies would be envious of such margins.
The Stock is Getting Cheaper
Based on Alibaba’s FY2022 estimated EPS of $8.56, the stock is trading at a (forward) P/E of around 13.9. With analysts expecting a very reasonable EPS growth of 14% next year (which even suggests a slowdown in terms of revenue growth), shares will be trading with a forward P/E of around 2.2 next year if the stock keeps hovering at its current price.
The stock’s performance continues to mismatch Alibaba’s growth and profitability prospects. There will have to be a point at which BABA stock hits its bottom, and considering the constant share decline and widening undervaluation, it shouldn’t be far from here.
Alibaba’s management is actively taking advantage of this issue by repurchasing shares on the cheap. Last quarter, it repurchased around $5.1 billion worth of stock, which implies an annualized rate equal to 1.6% of the company’s market cap.
Not a massive “buyback yield,” but certainly another driver to help drive the stock higher moving forward, especially if the rate of buybacks accelerates.
Wall Street’s Take
Turning to Wall Street, Alibaba has a Strong Buy consensus rating, based on the 19 Buys and three Holds assigned in the past three months. At $203.20, Alibaba’s stock forecast implies 71.3% upside.
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Disclosure: On the date of publication, Nikolaos Sismanis had a beneficial long position in the shares of Alibaba through stock ownership.
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