Alibaba Deep Dive - Discounted Cash Flow Calculation - Intrinsic Value

There has been a lot of talk about Alibaba over the last year or two, so I decided to make this blog post looking at the numbers, the risks, and the possible opportunities. Alibaba’s stock price has had a rough year, due to a combination of a regulatory clampdown in China, delisting fears, and more competition. Their share price at the time of this writing was $122.10, down 53.12% over the past year. Many investors jumped in after seeing Charlie Munger add $37.5 million (as of March 31) worth of BABA to his Daily Journal portfolio (he has since doubled down on this position). In this blog post I will be going through a breakdown of their financials, as well as taking a good look at their core segments.

• What is Alibaba? What does Alibaba do?
• Segments
•   - China Commerce
•   - International Commerce
•   - Local Consumer Services
•   - Cainiao
•   - Cloud
•   - Digital Media & Entertainment
•   - Ant Group
• Revenue
• Net Income
• Free Cash Flow
• Share Buybacks
• Potential Risks
• DCF Valuation
• Conclusion

Disclaimer: Although I do own shares in Alibaba, I have tried to keep this blog post completely neutral, based on facts. Despite this, some biases may still be present. You should do your own research before making any investments. This blog post is not financial advice and is meant for informational/entertainment purposes.

What is Alibaba? What does Alibaba do?

Alibaba Group Holding Limited started as a commerce business originating in China. It now operates through 5 main segments: Core Commerce, Cloud Computing, Digital Media and Entertainment, Logistics, and Innovation Initiatives. The core commerce segment is further broken down into China commerce, international commerce, and local consumer services. Their largest revenue source by far is their commerce segment, specifically in China. Their Cloud Computing has seen good growth as well, and Alibaba cloud is now one of the top providers in the world. They also have a 33% stake in Ant Group.

Alibaba was founded in 1999 and are based in Hangzhou, China. During their latest investor day, they changed their mission statement to “to make it easy to do business anywhere in the digital era”. They’ve also pledged carbon neutrality by 2030. Their vision for 2036 is 2 billion consumers, 100 million jobs created, and 10 million profitable SMEs (small and medium sized enterprises).

Segments

In the quarterly report for Sept 2021, Alibaba announced they were further breaking down the segments to provide more transparency for investors. They have broken down the Core Commerce into China Commerce (which further breaks down into China Retail and China Wholesale), International Commerce (which further breaks down into International Retail and International Wholesale), Local Consumer Services, Cainiao, Cloud, Digital Media and Entertainment, and Innovation Initiatives and Others.

In this section we are going to go over a quick overview of what each segment is, and a summary of revenues/earnings from each segment.

China Commerce

Their China commerce segment has the largest/most valuable consumer base in China. It contains multiple offerings based on the consumers’ needs, such as Tmall, Sun Art, Taoboa, Taocaicai, Idle Fish, and Freshipoo, to name a few. This allows them to target a broad audience, both online and offline.

They have 953 million Annual Active Consumers (AAC) as of Q2, with average annual spending of 8400 RMB per consumer. This is up from 827 million AAC in 2020. Their retention rate is 98% among users that spend at least 7000 RMB per year, 96% for users that spend 2000-7000 RMB, and 66% among those who spend less then 2000 RMB.

Their paid membership for 88VIP and Tabao Pass has surpassed 50 million members as of October 2021, this is up from 30 million in Sept 2020. Their estimate is 100 million + members in the future, though they don’t specify exactly when in the future. Average revenue per user (ARPU) for paid members is 8x higher than average. They also have an 80% renewal rate on memberships.

In the FY ending 2021, the revenue from China is up 43% YoY, to 501.683 billion RMB. This provided an EBITA of 213.562 billion RMB.
For the first half of 2022 FY, revenue is up 33% YoY, to 280.149 billion RMB. The EBITA was 92.176 billion RMB.

As you can see this is a large portion of their total revenue. Slowing growth in China due to increased competition has been a concern for some investors, though if they are able to maintain this much market share, they will still greatly benefit from a growing GDP per capita in China. The graph below shows GDP per Capita growth in China.

International Commerce

International commerce is one of the main growth strategies for Alibaba going forward. With businesses like AliExpress, Lazada, Daraz, Alibaba.com, and trendyol, they are planning to further expand their reach, particularly into Southeast Asia

They currently have 285 million AAC, up 37% from 207 million last year. The total addressable population in their target markets is 1.2 billion, so there is still lots of room for growth. Order growth was up 62% YoY.

Revenue from international commerce was up 44% YoY, to 48.851 billion RMB for the fiscal year ending March 2021. Their EBITA was -2.932 billion.
For the first half of 2022, revenue was 30.294 billion RMB, which is a 41% increase YoY. Their EBITA was -3.511 billion.

Local Consumer Services

Businesses in the local consumer services segment include Ele.Me (which means “Are you hungry” in Chinese), Amap, and Figgy. Ele.me has grown AAC by 28% YoY, and orders by >35% YoY. Over the last year, Amap’s daily active consumers have tripled, and average daily orders grew 190% YoY

The addressable market for local consumer services is expected to reach 35 trillion RMB by 2025, up from 20 trillion in 2020. Alibaba has ~350 million annual active consumers, with 37% YoY order growth.

Revenue from local consumer services was up 19% YoY, to 35.442 billion RMB for the fiscal year ending March 2021. Their EBITA during this same time frame was -16.276 billion.
In the first half of 2022 revenue is up 18% YoY to 20.905 billion RMB, and EBITA was -11.305 billion in income during this time frame.

Cainiao

Cainiao is Alibaba’s logistics network. Its aim is to be able to deliver a package to anywhere in China within 24 hours, and 72 hours globally. If breaks down to 3 major segments: Consumer Logistics, International Logistics and Domestic Smart Supply Chain, and Logistics Parks and Technology. It is a key part of Alibaba’s business. Global parcel volume has increased 27% YoY, while parcel volume in China has increased 37% YoY.

For consumer logistics, Cainiao Post is China’s leading last-mile network, with 67% of cities covered. It has 30,000+ digitalized rural posts. Cainiao Guoguo is China’s leading crowdsourced parcel delivery platform. Between the two, daily package volume for the 6-month period ending Sept 2021 is up 88% YoY, to around ~64 million packages per day.

Revenue for International Logistics Network was up 40% YoY. This segment oversees inbound supply chain, outbound parcel network and outbound freight network. They offer 10-day delivery for $5 US to 20 countries, or 20-day delivery for only $2 US.

The Logistics Parks and Technology segment oversees the warehouses and technology within the warehouses. As of Sept 30, 2021, they had 10 million+ square meters assets under management.

Revenue from Cainiao for the year ending March 2021 was up 68% YoY, to 37.258 billion RMB, and the EBITA was -813 million.
In the first half of FY 2022, revenue is up 35% YoY, to 21.447 billion RMB. EBITA was -461 million.

Cloud

Alibaba has been expanding into the cloud space at a rapid pace, believing it is the future and every company will be run on the cloud at some point. 49% of the revenue in this segment is from non-internet industries, which shows that it’s not just businesses on the internet that are using cloud technology.

They are investing heavily into the segment to maintain one of the top spots in the world, with costs from R&D and talents increasing 30% YoY. They are also investing heavily in data centers, network, chips, and cloud servers. As of Sept 2021, they had 4 million paying customers, with a 40%+ 3-year CAGR. 62% of A-share listed companies are using Alibaba Cloud.

DingTalk, which is a professional communication and management application, has 92 million daily active users. 47% of A-share listed companies are using DingTalk.

Revenue in the cloud segment increased 50% for the FY ending March 2021, to 60.558 billion RMB. The EBITA was -2.251 billion.
For the first half of FY 2022, revenue is up 31% YoY, to 36.058 billion. The EBITA was 736 million RMB.

Digital Media & Entertainment

The digital media and entertainment segment includes businesses such as YOUKU and Alibaba Pictures. YOUKU is one of the largest streaming services in China, while Alibaba Pictures is a film company. Alibaba Pictures participated in the production and distribution of almost all of China’s major box office hits during the Golden Week holiday in October.

Revenue in this segment increased 7% YoY for the FY ending March 2021, to 31.186 billion RMB. EBITA was -6.118 billion.
For the first half of FY 2022, revenue was up 7% YoY, to 16.154 billion RMB. EBITA was -1.35 billion RMB.

Ant Group

Alibaba also owns a 33% stake in Ant Group, which is formerly known as Ant Financial or Alipay. In October 2020, Ant Group was set to go public with the largest IPO in the world, with a valuation of over $300 billion USD. Days before the IPO, founder Jack Ma publicly criticized Chinese regulators and the CCP. Days later China stopped the IPO from happening. China then started its crackdown on tech companies and forced Ant Group to become a financial holding company overseen by China’s state-controlled central bank. So far there has been no word of another potential IPO. Recent valuations have been estimated between $100-200 billion USD.

Due to the 33% stake that Alibaba owns, it continues to get a share of the profit. In 2021 Alibaba’s share of profit was 19,623,000,000 RMB or $3,006,000,000 US. In the quarter ending Sept 2021, the share of profit was 6,504,000,00 RMB, an increase of 39% from 4,681,000,000 in the quarter ending Sept 2020.

Revenue

Alibaba has seen incredible revenue growth, growing from 5.5 billion RMB in 2010 to 717.3 billion RMB FY ending 2021. Their current revenue over the TTM is 814.9 billion RMB. That is a ~52% compound annual growth rate (CAGR)! Over the last 5 years they have an equally impressive 48% growth rate! They’re revenue growth has started to drop this year, with them lowering their current year guidance from 27% to 20-23%. Being that the larger you get the harder it is to continue growing, this isn’t overly surprising. I created the chart below to show a revenue breakdown by segment.

Alibaba's plans for future revenue growth are detailed in the picture below, provided during their most recent investor's day. They want to continue expanding in their current businesses by increasing active consumers in specific geographic locations, continue to take advantage of the growing cloud business, and take advantage of the growing middle class in China.

Net Income

Alibaba’s net earnings have grown substantially. In 2016 their net income was 71.46 billion RMB. Comparing that to 2021, where their net income was 150.578 billion RMB. The 2021 net income includes a deduction of 18.2 billion RMB anti-monopoly fine that was imposed on Alibaba in December of 2020. This represents CAGR of 16.07% over the 5 year period.

Cashflow

Being that the intrinsic value of a company basically boils down to future cashflows discounted back to present day, let’s look at Alibaba’s history of free cash flows. Over the past 5 years, their free cash flow has increased from 45.99 billion RMB in 2016, to 188.6 billion RMB in 2021. This equates to a CAGR of 32.6%.

Share Buybacks

With the vast amount of cash Alibaba has, they have been buying back shares at a rapid pace, which is good for investors (when the share price is undervalued). In May 2019, the board of directors authorized a refresh to their share repurchase program for an amount up to $6 billion USD over 2 years. On December 28, 2020, they increased that amount to $10 billion USD, for a two-year period through the end of 2022. Once again in June 2021, they increased the amount to $15 billion.

For the fiscal year ending March 31, 2021, they repurchased 1.7 million ADSs (or approximately 13.3 million ordinary shares) at a cost of $371,000,000 USD. This equates to an average price of around $218/ADS.

Since April 1, 2021, they repurchased 18.1 million ADSs for approximately $3,680,000,000 USD, which equates to roughly $203/ADS.

In the second quarter of FY 2022 (September), they repurchased 26.9 million ADSs (or approximately 214.9 million ordinary shares) at a cost of roughly $5,147,500,000 USD. This is an average price of $191/ADS.

Based on my math, the total amount spent on repurchases has been $9,198,500,000 USD based on the last quarterly report. Let’s hope they used the remaining $5.8 billion while the share price was under $120!

Potential Risks

- Delisting

One of the biggest risks I hear is Alibaba getting delisted from the NYSE. There are two sides to this risk, one is Chinese regulators forcing them to delist, and the other is the SEC forcing them to delist. China has forced companies to delist in the past (DIDI) due to the fear of data breaches. I don’t think this is a major concern for shareholders of Alibaba, as even if China did force Alibaba to delist (which doesn’t seem likely at this point) the shares would still be available OTC and on the Hong Kong exchange. Most brokers allow you to exchange the NYSE shares for Hong Kong shares already, and if they didn’t, you would likely have ample time to do it yourself before it was delisted.

On the other side, we have the SEC that has finalized a new rule that allows it to delist foreign stocks for failure to meet audit requirements. The issue here is that China regulators do not allow U.S. regulators to inspect the audits of Chinese companies. Their reasoning for this is “national security concerns”. This has the potential to have a larger impact, as I believe OTC trading would also be banned, forcing investors to move to the Hong Kong exchange. This leads to more fees and hassle, which may make some investors want to move on.

At the time of this writing, U.S. regulators and Chinese regulators were talking, and hopeful a solution would be reached.

- Chinese Regulators

The Chinese Communist Party has largely been the reason for the major downfall of Alibaba to this point. What started with Alibaba founder Jack Ma publicly criticizing Chinese regulators, turned into a year-long (so far) tech crackdown. Between Ant’s planned IPO getting crushed, to the 2.8 billion-dollar USD anti-monopoly fine Alibaba was given (and everything in-between/after), Alibaba’s market cap has fallen over 60% from a high of over $800 billion USD in October 2020 to recent lows of just over $300 billion.

The goal of the crackdown is to promote common prosperity, ensure data security, and stopping monopolistic practices. Although hurting Alibaba’s bottom line (and share price) temporarily, a lot of what the CCP is doing will hopefully benefit the Chinese people, and ultimately may end up helping Alibaba grow long term.

Alibaba has been taking steps to try and please the CCP, including pledging $15.5 billion USD to the common prosperity goals, changing monopolistic behaviour, and attempting to sell their Weibo stake to a state-owned company.

The risks from the CCP are real, and although investors hope the worst is over, and there have been whispers that the crackdown is easing in 2022, no one can know for sure what the CCP will implement day to day. These risks should be included in your valuation, by adjusting cashflows as you think necessary.

- Competition

Competition is another risk Alibaba is facing. Alibaba has faced stiff competition from JD.com and Pinduoduo in the ecommerce sector, and although their margins are significantly lower, their revenue growth has been exploding. Alibaba is also hoping to grow a lot in the cloud and international markets, both of which also have a lot of competition.

My personal thoughts are that there will be enough room for multiple large companies in the Chinese Commerce sector. I think the potential growth in the cloud sector and international commerce sector will help compensate for the slower growth in Chinese commerce.

Valuation - DCF Calculation

We’re going to do a simple discounted cash flow analysis to attempt to get a rough intrinsic value for Alibaba. We will do a base case, with the Chinese regulators being more neutral going forward, as well as a more conservative case that assumes the Chinese regulators will have a further negative impact going forward.

If you disagree with our assumptions, or want to change some of the variables to see how it affects the intrinsic value, head over to our DCF calculator (100% free!)

With our base assumptions, we arrived at 1170.67 CNY/ADR, which is the equivalent of $183.56 USD. This is before taking into account the 33% stake in Ant Pay, which is estimated to be valued around 100-200 billion USD (637-1,275 billion RMB). That would potentially add 78-156 CNY ($12-$24) per ADR, making the fair value between $195.56 and $207.56 per ADR.

We used the following assumptions in our calculation to arrive at this value:

In our more conservative assumptions, we have lowered revenues and margins. As you can see this has given us a lower intrinsic value, at 796.52 CNY, or $124.79 USD per ADR. Again this is excluding the 33% stake in Ant Group, which could bring it up to around $136.79-$148.79.

Conclusion

Alibaba has seen incredible growth in the past and has the potential to continue that growth in the future with the future expansion into more geographical areas and the increase of GDP per capita in China. The cloud side of the business can offer great opportunities going forward as well. It does not come without risks though. Alibaba will likely continue to be very volatile going forward, and it’s impossible to tell what direction the CCP will take going forward.

In my opinion, the current downturn has offered a chance to get a position in a massive company with huge potential at a good discount. Do you have a position in Alibaba? Where do you think they will be as a company 5 years from now? Let us know in the comments below!