Charlie Munger (Trades, Portfolio), the legendary investor who passed away at 99 a couple of weeks ago, left behind a lifetime of lessons for investors to study. The guru is known for the active role he played in shaping Warren Buffett (Trades, Portfolio)'s thinking to buy great businesses at fair prices rather than investing in average businesses at great prices.
Like many other superinvestors, the guru had his fair share of setbacks as well. Munger's investment in Alibaba Group Holding Ltd. (BABA, Financial) stands out as one of his worst-performing investments. According to public filings, Munger held 300,000 shares of Alibaba at the end of the third quarter, representing over 12% of his portfolio. The below table summarizes his reported transactions.
Reporting period | Transaction | Number of shares | Average BABA price |
| Q1 2021 | Buy | 165,000 | $245.62 |
| Q3 2021 | Buy | 137,000 | $181.93 |
| Q4 2021 | Buy | 300,000 | $145.63 |
| Q1 2022 | Sell | 302,000 | $115.21 |
Based on the above data, it is reasonable to assume Munger was sitting on a substantial loss from his Alibaba investment at the end of the third quarter.
In a recent interview with CNBC, Munger discussed what went wrong with his Alibaba investment. He said:
"My worst trade was buying a block for the Munger family in Alibaba, which is a pretty good company. But I think it got over-hyped. And Jack Ma was – made mistakes in dealing with the Chinese government. I had some bad – everybody has some bad ones. You have an off day. The greatest tennis player goes out there some days to the center court and has a bad day. It happens."
As evident from the above statement, Munger continued to believe Alibaba is a great business, but unfortunately, he invested at the wrong price. Investing in a great business at the wrong price could still prove to be a disastrous investment, which explains his losses.
A closer look at Alibaba, recent regulatory developments and the macroeconomic outlook for its key business segments suggests the company is too cheap to ignore today. Learning from Munger's mistakes, investors now have the chance to invest in a great business at a seemingly great price.
The regulatory outlook continues to improve
Since abandoning the questionable zero-Covid policy earlier this year, the Chinese government has introduced a series of supportive policies to spur economic growth. At a time when the nation is battling with the U.S. for tech supremacy, Chinese policymakers have been quick to introduce new regulations to support the growth of the tech sector, diverting from its tech crackdown that lasted more than two years.
China has been one of the few countries to embrace an accommodative monetary policy framework following the pandemic. Last August, The People's Bank of China - the central bank - slashed the one-year loan prime rate for the second time this year, from 3.55% to 3.45%. In addition to rate cuts, policymakers have introduced favorable regulations to drive the adoption of new technologies such as artificial intelligence.
Building on this momentum, China announced on Dec. 12 it will step up policy adjustments to support economic growth in 2024. In a press release, the state media wrote:
"To further promote economic recovery, we need to overcome some difficulties and challenges. The main problems are insufficient effective demand, overcapacity in some industries, weak public expectations, and many hidden risks."
With policymakers now beginning to aggressively support the tech sector, it seems reasonable to assume the biggest obstacle that made Chinese tech stocks vulnerable in recent years - regulatory crackdowns - is well and truly coming to an end.
Alibaba's growth strategy
The investment case for Alibaba is centered around the long growth runway for most of its business segments.
First, Alibaba plans to improve the user experience for both Taobao and Tmall, with a strategic emphasis on utilizing AI technology to drive innovation. In the next three years, the company plans to develop Taobao into a platform that caters to the demand from all tiers of consumers.
Second, the company recently scrapped plans for a full spin off of its cloud business, which may add some pressure on profit margins in the short term but in the long term, this decision could prove to be value accretive. The cloud business is already proving to be a growth machine for the company and benefits from favorable macroeconomic trends. These trends include the growing adoption of cloud networks across businesses of all size and scale, the ongoing digital transformation of global industries, the growth of AI, which calls for advanced data management capabilities on the cloud and the rise of serverless computing. During the most recent earnings call, Alibaba CEO Eddie Wu outlined the company's plans to emphasize the use of AI as a driving force for cloud growth, with a focus on providing stable and efficient AI infrastructure for all industries.
Third, Alibaba plans to grow its international digital commerce business by building a world-class digitalized supply chain network. The company is focused on developing digital retail technologies in global markets, which should open new revenue streams in the coming years.
Fourth, the company has ambitious plans for Cainiao - its smart logistics network - and aims to upgrade this business to a growth machine with a focus on cross-border opportunities. Over the next three years, Cainiao aims to accelerate the construction of its logistics network, primarily with a focus on serving the global e-commerce industry to capitalize on the expected growth of this sector.
Overall, Alibaba is entering a business phase where it will focus on making the most of its cash reserves by investing aggressively to secure growth across all of its business segments. For context, the company ended the September quarter with $79 billion in cash and short-term investments.
The valuation is too cheap to ignore
Alibaba is currently valued at a forward price-earnings ratio of just over 9 in comparison to the five-year average of 19.35. This discount to the historical average does not come as a surprise as investors are not yet comfortable with China, its regulations and the relationship between the U.S. and China. Investing, however, is about striking a balance between all these risks and identifying great companies that are trading at irrational valuation levels. Alibaba fits this description well, with the company now entering an accelerated growth phase supported by a reversal in China's regulatory crackdown on the tech sector and favorable monetary policy decisions.
The current earnings yield of close to 10% is another indication that investing in Alibaba offers good value for money. For additional context, the company's earnings yield has historically hovered around 4%, which suggests fear is currently dictating terms over the market performance of the stock. In the long term, Alibaba's stock is likely to follow corporate earnings, unlocking hidden value for investors who are brave enough to jump on board today.
Takeaway
Investing in Alibaba has gone down in the history books as one of Munger's worst investment decisions. This, however, does not mean Alibaba is a bad company. The renowned investor simply invested in Alibaba at the wrong price and, to make matters worse, the stock was hit hard by external factors that prevented it from merging with its intrinsic value. Growth investors with an extensive investment time horizon (five plus years) have a major advantage over Munger today: time.
Investing in Alibaba at this cheap valuation and patiently waiting for Mr. Market to follow corporate earnings is likely to reward long-term investors handsomely in the years to come.
