Alibaba (BABA) is well positioned to take advantage of secular growth trends in the Chinese market. The company is attractively valued the future economics of the business.
Alibaba operates as a near monopoly which has established an "ecosystem" retailing platform, namely the Taobao Marketplace China's largest online consumer-to-consumer shopping site; Tmall China's largest third-party business-to-consumer platform for branded goods; and Juhuasuan China's most popular group buying marketplace. These online marketplaces are to Chinese, what are Amazon (AMZN) and Walmart (WMT) are to Americans ̵
Alibaba's Competitive Advantage is clear
Alibaba has a number of distinct competitive advantages. Firstly, its location: China. China is by far the largest internet market in the world-twice the size of the U.S. market. China has already transitioned into e-commerce for an emerging economy. Secondly, Alibaba has economies of scope. There are massive cost savings associated with selling different products by one conglomerate. Alibaba's third advantage is scale which allows it to save costs. The company hit $ 50 billion dollars in revenue last year.
Fourthly, Alibaba operates with a network effect. Given that the company has thousands of merchants who join its platform and promote entrepreneurship in China, the larger the network becomes. Given that Alibaba uses a revenue share model rather than charging listing fees. This makes it easier for more merchants to join the network.
Finally, Alibaba has excellent rations with the Chinese government. This makes political risk slim. This is vital in China, given the importance of the state in the growth of the economy.
10 Years of Sustainable Growth
China's ecommerce market is already growing to $ 1.8 trillion by 2022. With only 38% of China's population making purchases online, it is clear that there is a massive runway of growth ahead. Alibaba is out to benefit from this, perhaps more than any other business. The company dominates e-commerce in China, with a greater-than-50% market share.
Alibaba is making aggressive moves to capture a large share of China's offline retail industry. The company's "New Retail" initiatives include Heme supermarkets, Intimate department stores, among others. This area of Alibaba's business is booming; New retail helped drive a 344% year-over-year increase in "other revenue" to more than $ 1 billion in Alibaba's fiscal 2019 first quarter.
New Retail so helps to expand Alibaba's totally addressable market to include virtually all of China's economy , Alibaba has tremendous room for growth ahead
Alibaba's strategy is clearly one of expansion. The company is looking to capture as much of the Chinese market as possible in as many different sectors as possible. In this sense, it mirrors Amazon. The reasoning behind this is clear- massive economies of scale and scope. Alibaba simply has better resources and a larger scale of operations than all its rivals. By entering different marketplaces, Alibaba builds on its ecosystem and further strengthens its brand presence. I think this is just the right strategy.
International growth opportunities
Accordingly, Alibaba is also expanding its operations into several key international regions. For example, Alibaba has invested $ 4 billion in Lazada, a Singapore-based online mall. Alibaba has recently been partnered with Russian Mail.ru to launch a new e-commerce joint venture. With global expansion investors should expect Alibaba to continue its efforts in international markets. This should help to augment Alibaba's growth in China.
Free Cash Flow
Alibaba already generates significant amounts of free cash flow. Net income came in at $ 2.9 billion dollars, with almost all of the profits coming from the retail side of the business. This is extremely impressive, the company is not focused on profits, but growth.
The cloud business, which is currently growing at 100% year-on-year and will generate significant amounts of free cash flow going forward. This makes it structurally, more profitable than comparative e-commerce players search Amazon or Mercadolibre (MELI). At a market cap of about $ 450 billion, Alibaba has a price to earnings ratio of around 45. This is lower than either Amazon or Mercadolibre. By other measures, Alibaba is attractively valued.
Alibaba trades at just 25 times its operating cash flow or 10 times sales. This represents a lower valuation than its international peers. It also represents a much cheaper price than domestic player JD.com (JD) which is not even close to achieving profitability.
The stock was simply depressed, given the trade war – all Chinese stocks have been pushed down in value. Given that Alibaba is the clear market leader, I see no reason why the stock price does not appreciate significantly over the long term. I think the current moment is a good opportunity for value investors to capitalize on a short term dip in price.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha).