Alibaba stock (NYSE:BABA) has been a battleground stock for years. While shares are still down over the last year, Alibaba has increased by 76% from its 52-week low. Good news from China has encouraged investors to be more optimistic about the company’s future, and Alibaba’s low valuation also helps. While Alibaba is up from its lows, shares could rise even further if China’s economic reopening is successful.
What Occurred?
Alibaba has been a poor performer in 2022, with its shares falling to less than $60 per share during last year’s fall. That’s a far cry from the $300+ per share Alibaba was trading at the end of 2020. While there are some valid reasons for a drop in share price relative to the peak two years ago, such as the failed Ant IPO and tensions between China and the US, the selling appeared excessive at times.
Alibaba has recovered significantly in recent weeks, most likely due to oversold selling last fall. Alibaba has risen more than 75% from its lows in the high $50s to a share price of slightly more than $100.
Why Is Alibaba Stock Rising?
The reasons for Alibaba’s recent surge are linked to some of the past issues investors have had with the company. Three factors stand out.
First, China’s Zero COVID policy hurt Alibaba, resulting in an economic slump in Alibaba’s critical home market. Second, Alibaba’s investors are concerned about Chinese regulation. Last but not least, some investors see significant risks in China-US relations.
Pressures are easing on all three of these issues, which should benefit Alibaba’s operations and stock.
Let us first examine China’s COVID policy. Over the last few weeks, China’s economy has opened up significantly as the government moved away from its previous Zero COVID approach, which had hurt the economy and resulted in demonstrations and turmoil as people in China were unhappy about harsh lockdown measures and drastic regulation of every aspect of life due to the country’s COVID containment policy. Because economic progress is important to China, and the country’s leadership wants to avoid unrest caused by dissatisfied citizens, opening up the economy was a wise move; after all, other countries worldwide have done the same.
While this has resulted in increased infections in China, the economic impact should be positive. Without lockdowns, consumers will be able to spend their money more freely. Industrial production should increase as fewer people will be quarantined, which has previously led to production and supply chain issues. China has also strengthened its economy in other ways, such as by increasing infrastructure spending. As a result, the global commodity outlook has improved, as evidenced by the price performance of materials such as iron ore and copper. Iron ore is up nearly 50% from its lows in 2022 (as seen in the fall), while copper prices are up about 25% from their 52-week lows. China largely drives commodity demand, so “Dr. Copper” and other commodities indicate that conditions in Alibaba’s home country are improving.
Improving Chinese economic growth will undoubtedly benefit Alibaba. Economic growth leads to higher wages and wealth gains for consumers, increasing the sales potential of companies like Alibaba. Furthermore, with COVID measures ending, Chinese consumers may become more optimistic, resulting in a greater willingness to spend money rather than hoard it in uncertain times.
Alibaba’s business growth has been slow in recent quarters, with an average revenue growth rate of 1% over the last year.
While a difficult comparison to the previous year played a role, the Chinese population’s uncertainty and the lockdowns and economic slowdown hurt Alibaba’s business. Due to the ongoing economic reopening, Alibaba will be able to increase its sales in the future. All else being equal, an improving growth rate will attract more investors.
Investors have been concerned about Chinese regulation since the Ant Financial IPO failed. Some fines that Alibaba had to pay exacerbated the situation, and many investors viewed Alibaba as a risky investment due to uncertainties regarding the future actions of Chinese regulators. While I had always assumed that killing Alibaba was not in China’s politicians’ best interests, given the company’s importance as a source of taxes and a job creator, it remained unclear whether regulators would continue to put pressure on Alibaba.
However, regulators are becoming more lenient with Alibaba, as we recently received some positive news about Ant Group. Chinese regulators have approved a significant capital increase for Ant Group, which had previously been denied. While there are no guarantees, this move may imply that Ant Group will be less burdened by regulation in the future. And, if all goes well, the financial technology firm can go public. Since Alibaba owns roughly one-third of Ant Group, such an IPO could unlock significant value for Alibaba shareholders.
While regulation in China remains a risk that investors should monitor, things are moving in the right direction: less regulation, not more.
Similarly, regulation in the United States has previously been identified as a potential risk for Alibaba. Some investors are concerned that the US may force the delisting of Alibaba shares from the NYSE. However, things are improving there as well. Recently, US regulators gained access to the books of Chinese public accounting firms. This will allow SEC officials to examine the books of Alibaba and other Chinese-based technology companies listed in the US. As a result, these tech companies, including Alibaba, will be able to comply with US regulations. Delisting of Alibaba and its peers would have been possible if SEC regulators had not been granted access to their books – but this does not appear to be a problem, as US regulators are now able to conduct the necessary inspections for the first time.
As long as Alibaba’s books are clean, which they are, the company should be able to comply with US regulations soon, and the threat of delisting will fade. This will not directly impact Alibaba’s business, profits, or cash flows, but alleviating fears of delisting may attract new investors who have previously avoided Alibaba. Recent news about China seeking better relations with the US is also encouraging for Alibaba, as it reduces the risk of adverse regulation in the US.
Is There Still Room for Growth?
Alibaba has increased by more than 75% since its lows. Of course, this means it is less of a value pick now than it was two months ago. Alibaba is far from a cheap stock right now. If everything goes well, the company’s shares could rise even further in 2023 and beyond, as they are still relatively affordable.
Analysts predict that Alibaba will earn around $7.50 per share this year (which will end at the end of March). Based on Alibaba’s current share price, this equates to an earnings multiple of 14. Not only does this represent a discount versus the broad market, which trades at a high-teens earnings multiple, but Alibaba also appears to be very cheap compared to its closest American rival, Amazon (NASDAQ:AMZN), which has seen its earnings fall in recent quarters but is still valued at a hefty 80x net profits.
Alibaba is expected to earn $8.74 per share in its next fiscal year, which begins in three months. If Alibaba were to trade at 15 times net profits a year from now, the share price would be $131, or roughly 30% higher than Alibaba’s current price. If the stock trades at 18 times net profit, shares could rise to $157, representing a 55% price return. In absolute terms, even an 18x net earnings multiple would be low. Alibaba has previously traded at much higher multiples of more than 30x for extended periods. In my opinion, 15x or 18x earnings multiple a year from now is not overly bullish.
Bottom Line
Over the last two years, Alibaba stock has underperformed. It has risen from its lows, and the outlook is improving. China’s economic reopening should boost Alibaba’s growth, and regulatory risks are decreasing in China and the United States. Because shares are still cheap, further upside potential exists.
Featured Image: Megapixl @ Minipig5188
