The investigation on Chinese internet giant Alibaba’s (09988) anti-competitive behaviors concluded recently, with a record fine of CNY 18 billion ($2.8 billion). The one-time fine equals 4% of its 2019 domestic revenue and falls at the midpoint of the 1-10% range of antitrust fines indicated by the authorities.
Overhang Removed
Chelsey Tam, senior analyst at Morningstar, says the regulatory uncertainty has been largely removed and will stabilize Alibaba’s share price.
“After the regulator announced the actual fine amount and provided guidelines for handing of future violations, a relief rally followed,” says Tam, who believes the fine level is manageable. Alibaba’s share price has been under pressure for a while, as the regulator hinted a probe as early as November. Tam says most of the negative impacts and sentiments were sufficiently reflected in the choppy sessions since.
What follows the increased compliance with antitrust laws is heightened competition. That would put pressure on the pace of monetization, and ultimately impact margins. To comply with regulations, Alibaba has rewritten vendor exclusivity deeds and merchant retention measures that had forced vendors to choose one between Alibaba and competing platforms. Tam is not worried. “With Alibaba’s position in the market and continued investment in higher-margin business areas, it should once again overcome these challenges,” she says.
As part of the wider restrictions, the regulator also put in place a restructuring order for Alibaba subsidiary Ant Financial. The regulator foresees Ant’s fast expansion giving rise to sizable liquidity and systemic risks. We think the impact of this restructuring would result in a 29-55% reduction to our prior IPO valuation for Ant. The corresponding cut to Alibaba’s fair value estimate is minimal at 0% to 3%.
Wide Moat Stays Intact
The new industry playbook does not end the stable trend of Alibaba wide “economic moat”.
The Morningstar Economic Moat Rating represents a company's sustainable competitive advantage. A company whose competitive advantages we expect to last more than 20 years has a wide moat.
In Alibaba’s case, the strong network effect, or the synergies created among numerous popular platforms, would still play out for years to come. Increasing mobile usage on the mainland deepens internet-based consumption habits and expands the army of online shoppers. Our analyst forecasts that Alibaba's China retail active buyer base will grow at mid-single digits each year, meaning active buyers will amount to almost 1 billion by the end of 2025.
In turn, the high penetration rate of its flagship platforms offers Alibaba unparalleled access to user data that it can use to help merchants develop personalized mobile marketing and content strategies. “Fundamentally, a data-centric strategy like this has ensured Alibaba’s scalability, and has defended its leading position in the e-commerce business,” Tam adds.
Cushioning a Market Share Squeeze
Alibaba sets its longer-term growth avenues from less mature business lines like cloud services. The company is the first to monetize the cloud capability and has considerable margin of market share ahead of its peers. “The pandemic, which accelerated remote working and studying demand, served as yet another powerful catalyst,” says Tam, citing that Alibaba’s high margin valued adding cloud business saw bolstered demand.
The raft of anticompetitive rules may introduce and heighten competition at every corner, thus hurting the company’s market share. Remember, though, that Alibaba sits on more than 60% of the e-commerce market share in China. Tam compares Alibaba with the global e-commerce giant Amazon (AMZN), that has 38% market share in the US. She sees a fair room for Alibaba to release part of the market share to peers like Pinduoduo (PDD) and JD.com (JD) for example, before losing its competitive position.
Unprecedently Cheap
Considering expectations of margin compression due to regulatory changes and macro environment, Tam estimates Alibaba’s fair value to be HKD 303 per share.
The Morningstar Fair Value Estimate tells investors what the long-term intrinsic value of a stock is. We calculate the fair value estimate of a company based on how much cash we think the company will generate in the future.
On one hand, Alibaba’s valuation nears a record low with forward price/earnings ratio trading two standard deviations below its five-year historical mean. On the other, the attractive valuation comes with its unruffled fundamental outlook and stable wide economic moat.
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