The Chinese tech giant will overcome its near-term challenges and generate even bigger returns over the next few decades.
Alibaba’s (NYSE:BABA) stock has nearly tripled from its IPO price of $68 a share in 2014 as the Chinese tech giant has dazzled investors with the growth of its e-commerce and cloud platforms, which both lead their respective markets in China.
However, the trade war, COVID-19, and a potential delisting of U.S.-listed Chinese stocks have all weighed down the stock in recent months. Can Alibaba weather these headwinds and continue generating millionaire-making returns for long-term investors?
How does Alibaba make money?
Last quarter, Alibaba generated 82% of its revenue from its core commerce business, which includes its e-commerce marketplaces (Taobao, Tmall, AliExpress, Alibaba.com, Kaola, Trendyol, and Lazada), its brick-and-mortar stores, and its stake in Cainiao logistics.
Most of these businesses are based in China, but AliExpress is a leading marketplace in Europe, Trendyol is based in Turkey, and Lazada serves Southeast Asia. The core commerce business is Alibaba’s only profitable business; its profits subsidize the growth of the company’s other three businesses.
Alibaba’s cloud computing unit generated 11% of its revenue last quarter. Alibaba Cloud controlled 46% of China’s cloud infrastructure market at the end of 2019, according to Canalys. Its closest competitor, Tencent (OTC:TCEHY) Cloud, held an 18% share. Alibaba is also expanding its cloud platform overseas, where it faces intense competition from Amazon Web Services (AWS).
Another 5% of Alibaba’s revenue came from its digital media and entertainment businesses, which include its media streaming platforms (Youku Tudou and AliMusic), a movie studio, the UC web browser, and the Shenma search engine. None of these platforms lead their respective markets, which are dominated by companies like Tencent, Tencent Music, and Baidu. Alibaba’s innovation initiatives business, which produces smart speakers, online games, and other minor products, generated the remaining 2% of its revenue last quarter.
Alibaba feeds the growth of its three unprofitable businesses to expand its ecosystem and widen its moat against Tencent, Baidu, and other Chinese tech giants. It also owns a major stake in the payment platform AliPay, which holds a near-duopoly in China’s payments market with Tencent’s WeChat Pay.
Alibaba’s short-term challenges
Alibaba’s core commerce revenue rose 19% annually last quarter, but that marked a significant slowdown from its previous quarters due to COVID-19 disruptions. This business is also relying more heavily on its lower-margin units (brick-and-mortar stores, cross-border platforms, and Cainiao) to boost its revenue.
As a result, the segment’s adjusted EBITA margin contracted annually from 35% to 30%. That pressure could be exacerbated by the ongoing trade war, China’s economic slowdown, and competition from rivals like JD.com (NASDAQ:JD) for the foreseeable future. If Alibaba’s core commerce unit’s margins continue declining, it could become tougher to support its unprofitable cloud, digital media, and innovation businesses.
On the bright side, Alibaba’s cloud revenue grew 58% annually last quarter as its adjusted EBITA margin improved from -2% to -1% — which indicates its scale is kicking in and pushing the platform toward profitability. The digital media and innovation units remain deeply unprofitable, but Alibaba could curb its spending on those lower-priority businesses to deal with the near-term headwinds.
Alibaba recently assured U.S. investors that it had no plans to delist its NYSE shares after the Senate passed a bill targeting Chinese stocks, and it believes it can comply with any new regulations. This situation is still evolving, but Alibaba will likely try its best avoid a messy delisting process — which could likely require a buyout offer for its U.S. shares.
Alibaba’s long-term plans
Last September, Alibaba outlined its plans for the next five years: to serve over a billion Chinese consumers (up from 780 million at the end of March) and facilitate over 10 trillion yuan ($1.4 trillion) in total consumption across all its platforms.
Alibaba also believes it can boost its penetration rate in less-developed areas of China, which still only accounts for about 40% of its shoppers today — compared to 85% in developed areas. However, JD.com and Pinduoduo are also notably targeting the same lower-tier markets.
By 2036, Alibaba wants to serve 2 billion consumers worldwide with the expansion of its overseas marketplaces (which currently serve 180 million consumers), enable 10 million of its listed businesses to become profitable, and directly and indirectly create 100 million jobs.
Those ambitious goals indicate Alibaba could evolve from a Chinese tech giant into a global powerhouse clashing with Amazon across multiple markets. But that expansion could also be ensnared by escalating trade tensions and restrictions against Chinese companies.
Could Alibaba still be a millionaire-maker stock?
Alibaba faces near-term challenges, but it still expects its revenue to rise 28% in fiscal 2021. It will also likely remain the top e-commerce and cloud company in China — and a major player across the rest of the world — for decades to come. Therefore, Alibaba’s investors might be in for a bumpy ride, but this resilient tech giant could still generate millionaire-making returns over the long run.
Author: Leo Sun
Source: Fool: Could Alibaba Be a Millionaire Maker Stock?