Will Alibaba’s Cloud Business See A Turnaround In Q4?

Chinese e-commerce and cloud behemoth Alibaba stock (NYSE:BABA) is poised to report its Q4 FY’24 results on May 14th, reporting on a quarter that is likely to see the company’s business exhibit only modest growth, amid headwinds in the domestic e-commerce market and the company’s cloud business seeing slow growth. We estimate that earnings will come in at about $1.42 per share, slightly ahead of the consensus estimates while revenues are likely to come in at about $30.5 billion, up about 4% compared to last year. So what are some of the trends that are likely to drive Alibaba stock?

The company has been weighed down by multiple issues. For one, the Chinese economy has seen a slower-than-expected rebound from the Covid-19 lockdowns, with issues being compounded by weakness in the real estate market. Over Q3 FY’24, revenue from the company’s Taobao and Tmall online marketplaces rose just 3% year-over-year. Things could get a bit better over Q4 FY’24, as retail sales in China over the quarter rose 4.7% year-over-year,  as consumer spending during the Spring Festival holidays surged. However, Alibaba is seeing mounting competition in the e-commerce space with PDD, the owner of discount e-commerce platforms Pinduoduo and Temu gaining share as Chinese consumers become more value-conscious due to a weak economy. Alibaba’s cloud business has also seen a slowdown, with cloud intelligence group revenue rising just 3% to $3.95 billion in the previous quarter, partly due to the U.S. restrictions on the export of advanced semiconductor chips hurting its business.

BABA stock has suffered a sharp decline of 65% from levels of $235 in early January 2021 to around $80 now, vs. an increase of about 35% for the S&P 500 over this roughly 3-year period. Notably, BABA stock has underperformed the broader market in each of the last 3 years. Returns for the stock were -49% in 2021, -26% in 2022, and -12% in 2023. In comparison, returns for the S&P 500 have been 27% in 2021, -19% in 2022, and 24% in 2023 – indicating that BABA underperformed the S&P in 2021, 2022, and 2023. In fact, consistently beating the S&P 500 – in good times and bad – has been difficult over recent years for individual stocks; for heavyweights in the Consumer Staples sector including WMT, PG, and COST, and even for the mega-cap stars GOOG, TSLA, and MSFT.

In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, has outperformed the S&P 500 each year over the same period. Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics.
Given the current uncertain macroeconomic environment with high oil prices and elevated interest rates, could BABA face a similar situation as it did in 2021, 2022, and 2023 and underperform the S&P over the next 12 months – or will it see a recovery?

There are some indicators that the regulatory troubles that Alibaba faced relating to its affiliate and digital payment services major Ant Group over the last few years are now in the rearview mirror. Alibaba is also tweaking its e-commerce strategy to be more like value-focused players such as Pinduoduo. For instance,  Taobao now offers a “refund only” policy that allows customers to keep products they purchased but had complained about for not matching the product description on the site. Alibaba’s valuation is also compelling. At the current market price of about $81 per share, BABA stock trades at under 10x forward earnings, which is very fair in our view, given that the company is likely to see high single-digit growth levels over the next two fiscal years. Alibaba’s overall valuation is much more favorable compared to U.S. e-commerce behemoth Amazon, which trades at roughly 45x forward earnings, with only marginally higher near-term revenue growth projections. Although the risks for Chinese stocks are typically higher given the potential regulatory and political concerns, we still believe that such a large difference in valuation may not be warranted. We estimate Alibaba’s valuation at about $102 per share indicating a considerable upside over the market price.  See our analysis of Alibaba revenues for more details on how Alibaba’s revenues are likely to trend.

[1] Returns as of 5/5/2024
[2] Cumulative total returns since the end of 2016

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