Last weekend, Barron’s published a brutal 3,000-word cover story on why Alibaba’s business and stock looked like trouble.
In addition to saying the stock could experience “a decline of up to 50%,” author Jon Laing suggested the Chinese online marketplace and its CEO, Jack Ma, were actually making up some of its flashy performance numbers.
Laing made three claims about Alibaba that stuck out:
- “Dream” stock: Alibaba is overvalued at its current 25x price-to-earnings multiple. It should be valued closer to eBay’s 15x forward price-to-earnings since the businesses have similar operations.
- “Puzzling” user numbers: Alibaba’s user numbers seem too high. The government says there were 361 million online shoppers in all of China during 2014, while Alibaba claims to have 367 million active users buying just from their site. The article questioned the accuracy of Alibaba’s number.
- “Hard-to-square” user spending: The amount Alibaba says users spend on its site is too high. Barron’s said that US consumers spend $US1,655 per shopper online, while Alibaba claims that its customers spend $US1,215 a year on its site alone. Given the higher relative income of the US population, those numbers are too close. Initially, Laing wrote that Alibaba claimed its average shopper spent 26% more than the average US online shopper. That error was later corrected by Barron’s.
“In the end, gaudy financial reports can only work for so long before reality intrudes,” Laing wrote. “This hard lesson figures to be driven home to Ma and his trusting investors in the coming years, and it won’t be pretty.”
As expected, this drew a significant reaction from media sources and eventually an open-letter rebuttal from Jim Wilkinson, Alibaba’s senior vice president of corporate affairs.
Business Insider considered the claims and evidence presented by both sides. We also spoke to investors and analysts. It seems that while the statistics remain murky, the doom and gloom over Alibaba’s business is unfounded.
It’s a mistake to compare shares of Alibaba and eBay today
One of the first issues Laing takes up with Alibaba is on its price-to-earnings ratio, or how much of a premium investors pay for the company’s profits.
As Laing noted, Alibaba’s current P/E ratio is around 25x, but the company notes that it’s around 20x if you’re considering projected 2016 earnings. Laing would argue it’s too high considering that eBay’s forward P/E ratio is only 15x, and the companies have similar business models.
Comparing the two companies, however, is unfair considering where each company is in its evolution and where each company operates.
In a note to clients Monday, SunTrust analyst Robert Peck called the comparison “nonsensical.”
“It neglects the drastically different growth rates which would justify higher multiples,” wrote Peck. “Further, we would also note that eBay traded at higher multiples vs. its current multiple in higher growth periods.”
Alibaba’s primary market in China is still in its infancy and has exceptional room to grow. Only around 48.8% of people living in China have access to the internet, and that number is expanding rapidly.
By comparison, eBay’s primary market in the US had that level of internet penetration in 2000, and the day eBay reported its earnings for 2000, the company’s P/E ratio was 227x, based on historical stock data.
Even moving a few years past the tech bubble, eBay’s P/E was around 82x in January 2003 and 60x in January 2006, which is around the time the company reported earnings for 2002 and 2005, respectively. By 2003, internet penetration was 59% of US households, and 68% in 2005.
“The argument that Alibaba should have the same P/E multiple as eBay is absurd,” Mark Mahaney, an analyst covering tech companies for RBC Capital, told Business Insider. “Their growth rates are dramatically different, you can’t compare the two.”
Mahaney said that due to the way the market views companies, one such as Alibaba that is still growing by leaps and bounds will always have a higher P/E value than a company like eBay which has slower, steadier annual growth.
Furthermore, an Alibaba spokesman told Business Insider that comparing eBay to Alibaba is unfair because person-to-person selling is just one part of the business, Taobao. The company also has TMall, which sells business-to-consumer, more like Amazon.
“You’re only comparing one part of the business and that doesn’t encapsulate all of what Alibaba does,” said the spokesman.
Yes, it’s imaginable that Alibaba’s user numbers are that huge
Another large concern raised in Laing’s piece is just how many people are using Alibaba, and this is where suggestions of shady record-keeping come in.
Alibaba, in multiple presentations and again in Wilkinson’s response, claims that it had 367 million active buyers in 2014. Laing countered that the China Internet Network Information Center, the official internet tracking branch of the Chinese government, reported only 361 million total online buyers in 2014 for all of China’s ecommerce sites.
While the numbers are close enough to seem compelling, Laing is comparing two different things.
According to the Alibaba spokesman, the 367 million is the number of accounts that made a purchase on Alibaba during the previous 12 months. They noted that the accounts could be businesses, since there is an important business-to-business aspect of Alibaba. Furthermore, it’s possible for individuals to have more than one account.
This isn’t a stretch, considering even Facebook estimates that between 5.5% and 11.2% of its users are fakes or duplicates, and the model of Alibaba lends itself to more duplicate accounts.
John Hempton, chief investment officer of Australia-based hedge fund Bronte Capital, told Business Insider that while he has concerns about Alibaba’s business, the number isn’t one of them.
“That doesn’t bug me much,” he said. “Alibaba is ubiquitous in China, and if there are 370 million online shoppers in the country, it wouldn’t surprise me if there are that many active accounts.”
The CNNIC number, however, is the number of humans shopping online and only in a six-month period, two elements that would logically make the number lower.
There’s also the issue of the reliability of China’s official statistics, which are notorious for being inaccurate.
“I wouldn’t be surprised if there was under-counting the number of consumers on the CNNIC’s part,” RBC’s Mahaney said.
How much consumers are spending on Alibaba
Another point of contention between Laing’s article and Alibaba was the amount that consumers spend annually on the site, especially as it compares to e-commerce spending in the US.
Originally, Laing’s post claimed that US consumers spent less than $US1,000 shopping online per year compared and Chinese consumers spent $US1,215 per year on Alibaba. Citing US Census Bureau data, Alibaba said in its response that US consumers actually spend $US1,655 annually online.
Alibaba also said Chinese consumers on average spend $US1,056 on Alibaba. Barron’s corrected the article to match the US number from Alibaba’s response, but maintained its estimate of spending on Alibaba.
Laing wrote that it “strains credulity” to expect that Chinese consumers spend almost as much only on Alibaba as US consumers spend total online in a year.
“That $US1,215 average spend at Alibaba also seems high in view of the total average annual per capita expenditure in China, online and at physical stores; that stands at about $US2,260,” said the Barron’s article.
“It strains credulity that the average Alibaba user would spend over half of his consumer outlays on Taobao and Tmall, given that the sites have a negligible presence in categories that account for the bulk of consumer spending, like food and beverages, housing, transportation, home health products, and restaurant dining,” it continued.
RBC’s Mahaney doesn’t think this is so far-fetched.
“Alibaba has a dominant share of the market, somewhere in the magnitude of 80 to 90%,” Mahaney said. “The spending amount just shows how dominant they are.”
Mahaney also points out, as did Laing in the article, that Chinese consumers purchase more items online than US consumers do. This includes everything from household staples to high-end luxury goods.
Another critical factor is that the average Alibaba user is not the same thing as the average Chinese consumer. Alibaba users are only those 47% with internet access, and poorer consumers in rural areas that would deflate the consumer spending numbers are not Alibaba customers.
Additionally, the consumer-spending numbers from the government are, again, probably understated.
You can never know for sure who’s right or wrong because data can be revised, consumer behaviour can turn, competitors may rise, etc.
But if you’re going to call into question a company’s financial reporting, you better have substantial and convincing evidence to that effect. In Alibaba’s case, the numbers don’t seem to be outside the realm of being reasonable for a company that has such a dominant footprint in a growing market.
Investors and traders seem to agree. The stock ended the week up 3% since its open Monday.
When asked for comment, Barron’s said it stands by the article.
If you missed any of that, here it is summed up in chart form:
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