In the past few months, I have written extensively about Alibaba Group Holdings Ltd. (BABA, Financial) and expressed my views on its current and potentially structural long-term issues. The stock is down by about 25% since I first wrote about its issues. Although I do not regard short-term stock performance as confirming evidences for my investment thesis, I do think the market is at least correctly pricing in some of these issues at Alibaba. One question that I get asked quite a bit is related to the company's merits. I consider it a great question because Charlie Munger taught us to always invert. Therefore, in this discussion, I'll share my thoughts on the positive side of Alibaba's business.
Management is proactively coping with challenges
First of all, I give Alibaba's management team credit for realizing they are in big trouble and actively making changes to cope with the structural issues. Most importantly, they have finally decided to shift their focus back to consumers and returning to the strategy of putting users first. The management team adopted user purchase frequency as the highest priority key performance indicator for platform operations, above gross merchandise value as purchase frequency is the most direct measure of users' recognition of an internet consumption platform.
T-Mall is still dominant among brands and consumers
Although Pinduoduo Holdings Inc. (PDD, Financial) and Bytedance's Douyin have taken market share away from Alibaba, most of the brands have stayed with T-Mall. This is quite impressive because PDD has tried really hard to woo brands away from T-Mall and so far has had very limited success. For many brands, T-Mall is still the most important online channel by a large margin. They will still use VIPshop (VIPS, Financial) for oversized and off-season products. And distributors, not the brands themselves, use PDD to unload excess inventory. This phenomenon tells me that T-Mall is very entrenched among brands. Munger also recognized this.
In support of this point, a portion of T-Mall's consumer base will never buy branded products on Pinduoduo because they think the platform is “too low” for their social status. To be clear, they will still buy cheap products from Pinduoduo, but when it comes to quality products, T-Mall is their first choice. These consumers represent the more affluent group of online Chinese consumers, especially female consumers from tier-1 and tier-2 cities. This phenomenon tells me that T-Mall is very entrenched among high net worth customers. Again, Munger also saw it.
Healthy and conservative balance sheet
From a financial point of view, Alibaba's balance sheet is very clean and conservative. As of the latest quarter, the company has $23 billion in long-term and short-term debt, but $78.70 billion in cash and cash equivalents, resulting in a very healthy cash-to-debt ratio of 3.40. The debt-to-equity ratio is also very low at 0.16.
Alibaba's free cash flow is also very strong and has exceeded its net income in most fiscal years. Strong free cash flow is very important because it allows the company to defend its business and explore capital allocation opportunities.
Shareholder-friendly capital allocation
Alibaba has been doing a much better job at buying back shares than Tencent (TCEHY, Financial) and PDD. PDD has not bought back shares since it went public, even when its price was ridiculously cheap in March and April of 2022 when the delisting risk scared all Chinese ADR investors. Tencent has bought back shares, but it has issued more shares to its employees with the exception of 2023. Therefore, Tencent's share count has been steadily increasing for many years.
In contrast, Alibaba has been very shareholder-friendly in terms of share buybacks. In May 2019, the company announced a two-year buyback of $6 billion, then expanded it to $10 billion in December 2020 and again in August 2021 to $15 billion. In March of 2022, Alibaba's board authorized to upsize its share repurchase program again to $25 billion from $15 billion.
According to a press release, during fiscal year 2023, the company repurchased a total of 897.9 million ordinary share (or the equivalent of 112.2 million American depostiory receipts) for a total of $9.50 billion, which resulted in a net reduction of 3.3% in its share count after accounting for stock issued under equity-based compensation plans. Since announcing the share repurchase program in 2019, Alibaba has reduced its share count by 6.6%. As of Dec. 31, Alibaba still has $11.7 billion in dry powder for share repurchases. At the current price level, I am sure the board will be more than happy to buy back more stock.
I applaud Alibaba's management team for their share buyback efforts. At least they listen to the shareholders. Tencent's shareholders have been voicing their discontent for many years and yet the company still issues too many shares under its empoyee stock ownership program. In 2023, Tencent finally reduced its share count after accounting for stock issued under equity-based compensation plans. I hope Tencent's management team can learn from Alibaba going forward when conducting share repurchases.
Conclusion
While Alibaba has both short-term challenges and long-term structural issues, it is still the dominant player in China's e-commerce industry. It still generates very strong free cash flow and has a very conservative balance sheet. The company's share repurchase program is also the most shareholder-friendly among large-cap Chinese internet stocks.
Alibaba is still a valuable franchise, but Munger paid too much for the stock.
