Disclaimer: This is not professional advice. This blog and post are for informational and entertainment purposes only and should not be considered advice.
The majority of our money goes into index funds and ETFs, but ever since I was a young kid I’ve been interested in the stock market. My dad always watched CNBC, subscribed to The Wall Street Journal and various other financial publications, all of which piqued my interest.
My dream was always to have enough money that one day I’d be able to invest meaningful sums in companies that I felt were either undervalued or would be the major companies of tomorrow. Shortly after the financial crisis, I vividly remember looking at Amazon’s stock and desperately wanting to buy some. I had purchased books and other items from the site, and it was a no-brainer that they were going to get massive. Unfortunately I was in college and had absolutely no money, so that wasn’t an option for me!
Flash forward to today, we have more cash than we know what to do with. I know I should have just put it all into the market as soon as the funds flowed in as that would have worked out quite well and is the sensible long term thing to do. But I didn’t and I hesitate to put it all in at once with the broadly rich valuations.
I’m always on the lookout for undervalued businesses or companies whose sentiment is far more negative than it deserves. I purchased one such stock over the last few weeks: Alibaba (ticker symbol: BABA).
What is Alibaba?
If you aren’t familiar with Alibaba, they were established in China in 1999 and, via information straight from their website, they are a “digital ecosystem with businesses comprising commerce, cloud computing, digital media and entertainment, and innovation initiatives”. Their business is fairly similar to Amazon, but different in that they don’t own the inventory and distribution centers and are rather more of a marketplace.
They were founded by Jack Ma and several others out of an apartment in Hangzhou, China as detailed in Duncan Clark’s solid book Alibaba: The House That Jack Ma Built. I won’t rehash everything here, but if you’re interested to learn more about the company’s history, go to your local library and give the book a read or do some Googling on the background of the company.
Why did I decide to invest?
My investment thesis for Alibaba is quite simple:
It’s a tech company in growing sectors (e-commerce, cloud computing, etc.).
It does most of its business in a growing economy (China).
It is already very profitable.
China will be the next frontier for trillion dollar market cap companies.
Its stock has been beaten down over the course of the last 15 months, closing Friday at around $130 per share versus a high of around $310 in October 2020, leading to a very reasonable valuation given its growth prospects.
If it has so much going for it, then why has its price declined so much?
Well, there’s significant regulatory concern. The Chinese government has targeted the tech sector, and especially Alibaba, over the last 12-18 months, even going so far as to fine the company $2.8 billion from an antitrust case.
But that’s not it. Jack Ma, the founder, was slated to bring Ant Group public late in 2020, but the IPO was then canceled by the Chinese government. Ant Group owns Alipay, the leading mobile payment and online platform in China, and Alibaba owns about one-third of Ant Group.
Jack has been an outspoken critic of the Chinese government. His criticism of the Chinese financial system is one of the reasons regulators pulled the plug on Ant Group’s IPO. Soon after, he went missing for three months and nobody really knows what happened.
These events, and more, have understandably spooked investors. But such a significant drop in share price seems to be more driven by fear than reason. The company continues to grow and has the leading market share in cloud computing in China, an industry that is much more in the growth stage than it is in the United States and there is a significant runway for Alibaba to capture a lot of that future value.
They are also very innovative. Take a look at this video and this video from YouTube a few years ago. Neither of these are part of their core businesses, but it shows how innovative and technologically capable they are, even outside of their core business.
Ultimately, they are an innovative tech company in a growing economy and their valuation is very cheap relative to its peers around the world. Their forward PE ratio, i.e. the ratio of their share price relative to next year’s expected earnings per share (EPS), is significantly lower than other peers. The table below gives some comparison metrics, as of Friday 1/7/2022, compared to other tech companies around the world.
|Company||Ticker||Value ($B)||TTM PE||Forward PE|
Alibaba’s current and forward PE are lower than all the other leading technology companies, both in China and in the United States. The top three stocks in the table are all Chinese companies and have significantly lower market caps than the US tech companies shown.
As the Chinese economy continues to grow, the market value of their companies will increase and before too long we will see a trillion dollar market cap from a Chinese company. I think Alibaba will be one of those companies. It’s hard to believe that five years from now they won’t be worth considerably more than $358 billion.
The only way that happens is if the Chinese government decides they don’t want their companies to have outsized success and put regulations in place to stop that.
I have a hard time believing that will happen as that would send a message to the rest of the companies in China that too much success will lead to government scrutiny and / or control, and ultimately stifle the economic growth and innovation on which China has prided itself.
So far I’ve purchased 472 shares at a cost basis of ~$116 per share. It closed Friday right around $130 per share and I’m hoping it will fall back as I’d like to buy more. If it goes under $120 again I will continue to accumulate.
This is a mouthwatering opportunity that doesn’t come around often, and I’ve decided the risks, while real, are largely baked into the stock price and the upside potential is too large to pass up.
I believe this will be a $1 trillion stock within the next five years, implying at least 3x upside. The only way that doesn’t happen is if the Chinese government decides it shouldn’t happen.