Why Munger might be wrong on Alibaba

TL;DR

• Charlie Munger’s purchase of shares in Alibaba over the past two quarters has caught the attention of value investors.
• The share price of Alibaba has fallen due to increasing competition in the Chinese e-commerce market. In particular, its peer Douyin has been able to capitalise more on the growing popularity of live streaming e-commerce.
• This has led to slower revenue growth for Alibaba, at a time of rising regulatory clampdown.
• While Alibaba’s valuation is cheaper than peers, its share price may continue to be impacted by these competitive and regulatory headwinds.

What happened?

For many who have been following Warren Buffet’s style of value investing, the stock purchases of his company Berkshire Hathaway and that of his long-time partner Charlie Munger have always been closely watched. It came as little surprise that many took notice when Munger purchased over 302,000 shares in Chinese e-commerce giant Alibaba in the past two quarters through Daily Journal, his personal company.

The purchase came in the midst of a sharp correction in Alibaba’s share price this year due to rising regulatory concerns. Munger bought the first tranche of 165,320 shares in the week of 5^th April when Alibaba was trading at about $225 per share, and the second tranche of 136,740 shares in the week of 4^th October at about US$150 per share. After spending close to US$60 million on the stock purchases, Alibaba now makes up close to 20% of the Daily Journal’s portfolio.

What does this mean?

Following the share purchases, Alibaba’s share price has fallen further to about US$125 per share at the close on 10 December. While Munger often takes a long-term view when investing, these are some of the near-term risks that might lead to weak share price performance.

• Increasing competition in Chinese e-commerce space. Live streaming eCommerce has been gaining in popularity, and Alibaba’s competitor Douyin has been able to capitalize more in it to drive revenue growth. Douyin’s live streaming e-commerce is expected to reach above RMB 600bn of gross merchandise value (GMV) in 2021, and this grow further to above RMB 1 trillion in 2022, representing close to 8% of the total eCommerce market.

• Falling profitability. The more intense competition is reflected in Alibaba’s 3Q21 results which disappointed the market. Its revenue came in slightly below market expectations, as the revenue it received from merchants for services, or  customer management revenue, only increased by 3% compared to the same period last year. The total gross merchandise value (GMV) for its banner Singles Day event this year only rose 8.5% this year, marking the slowest increase seen since data became available.  Alibaba also cut its full-year revenue forecast to between RMB 375 billion and 383 billion, representing a 4-6% decline from its previous forecast.

• Chinese regulatory clampdown continues. From the aborted listing of Ant Financial to new regulations that prevent Alibaba from requiring interested merchants to be on its platforms exclusively, Alibaba has faced numerous regulatory headwinds over the past year. The optimistic may believe that such regulatory interventions might slow down in the coming year as the Chinese government starts to focus on financial stability with a slowing economy. However, it may be unrealistic to expect that such regulatory tightening would not continue into the coming year especially as the Chinese government seeks to achieve its social goals.  

What would Beansprout do?

Alibaba trades at a discount to peers. Despite the risks above, one of the reasons why Munger might have bought into Alibaba is because its valuation is lower than most of its peers. It is trading at about 2.7x historical sales, significantly lower than most of its e-commerce peers. While most of the other internet stocks struggle to generate a profit, Alibaba is trading at a historial price-to-earnings ratio of 17.5x, below that of NASDAQ and S&P 500. All in, Alibaba might offer much better value compared to most other tech stocks, but its share price might continue to be impacted by rising competition, weaker profitability and continued regulatory headwinds.