Why Alibaba Stock Is Surging (NYSE:BABA)

Article Thesis

Alibaba (NYSE:BABA) has been a battleground stock for years. While shares are still down over the last twelve months, Alibaba has now surged by an impressive 76% from the 52-week low. Good news out of China has made investors become more optimistic about the company’s future, and BABA’s low valuation helps as well. While BABA is up from the lows, shares could climb further, especially if China’s economic reopening is successful.

What Happened?

Alibaba has been a pretty bad performer in 2022, as its shares slumped to a low of less than $60 per share during last year’s fall. That’s a far cry from the $300+ per share Alibaba traded at towards the end of 2020. While there are some good reasons for a share price decline relative to the peak two years ago, such as the failed Ant IPO and tensions between China and the US, the selling seemed overdone at times.

In recent weeks, Alibaba has recovered substantially, likely at least partially from the result of overdone selling last fall. From the lows in the high $50s, Alibaba has now surged more than 75% towards a price of slightly more than $100 per share.

Why Has Alibaba’s Stock Risen?

The reasons that made BABA go up quite a lot in recent weeks are tied to some of the issues investors had with BABA in the past. Three factors are noteworthy.

First, Alibaba was negatively impacted by China’s Zero COVID policy which resulted in an economic slump in Alibaba’s all-important home market. Second, Alibaba’s investors have worried about regulation in China. And last but not least, some investors have seen major risks when it comes to China-US relations.

It looks like pressures are easing on all three of these issues, which should be good for Alibaba’s operations and its shares.

Let’s first look at China’s COVID policy. Over the last couple of weeks, China has opened up its economy by a lot, as the government moved away from its previous Zero COVID approach that had hurt the economy and that had also resulted in demonstrations and turmoil as people in China were not happy about harsh lockdown measures and drastic regulation of every aspect of life due to the country’s COVID containment policy. Since economic progress is important for China, and since the country’s leadership wants to prevent turmoil due to unhappy citizens, opening up the economy was an opportune move — after all, other countries around the globe have opened up as well.

While this has resulted in a surge in infections in China, the impact on the economy should be positive. Without lockdowns, consumers can spend money more easily, and industrial production should pick up as well, as fewer people will be quarantined, which had led to production and supply chain issues in the past. China also has made some moves to bolster its economy in other ways, e.g., by increasing infrastructure spending. As a result, the global outlook for commodities has improved, as can be seen in the price performance of materials such as iron ore (SCO:COM) and copper (HG1:COM). Iron ore is up close to 50% from 2022’s lows (seen in fall), while copper prices have risen by around 25% from the 52-week lows. Commodity demand is largely driven by China, thus “Dr. Copper” and other commodities suggest that things are improving in Alibaba’s home country.

Improving economic growth in China will naturally be beneficial for Alibaba. Economic growth results in higher wages and wealth gains for consumers, which will improve the sales potential for companies such as Alibaba. On top of that, with COVID measures coming to an end, Chinese consumers could be more optimistic, which will result in an improved eagerness to spend money versus hoarding cash in uncertain times.

Alibaba’s business growth hasn’t been too strong over the last couple of quarters, as the average revenue growth rate over the last year was just 1%:

While a tough comparison to the previous year played a role, the uncertainties among the Chinese population and the lockdowns and economic slowdown hurt BABA’s business as well. Due to the ongoing economic reopening, BABA should be able to increase its sales going forward, I believe. An improving growth rate, in turn, will attract more investors, all else equal.

Investors had been worrying about regulation in China ever since the Ant Financial IPO failed. Some fines that Alibaba had to pay made things worse, and many investors saw Alibaba as a risky pick due to uncertainties when it comes to the future actions of Chinese regulators. While I always thought that killing BABA wasn’t in the interest of China’s politicians, as the company was important as a source of taxes and as a job creator, it was still unclear whether regulators would continue to pressure BABA.

Right now, however, it looks like regulators are becoming more lenient with Alibaba, as we recently got some positive news about Ant Group. Seeking Alpha reports that regulators in Beijing allowed a substantial capital increase for Ant Group, which had previously not been the case. While there are no guarantees, of course, this move could imply that Ant Group will be less burdened by regulation going forward. And if things go right, the financial technology company might be able to have its IPO eventually. Since Alibaba owns around one-third of Ant Group, such an IPO could unlock considerable value for BABA’s shareholders.

While regulation in China still remains a risk that investors should keep an eye on, it looks like things are moving in the right direction — less regulation, not more of it.

Likewise, regulation in the US has been identified as a potential risk for Alibaba in the past as well. Some investors are worried that the US might force a delisting of BABA shares on the NYSE, for example. But it looks like things are improving there as well. Recently, US regulators got access to the books of public accounting firms based in China. That will allow SEC personnel to inspect the books of BABA and other China-based tech companies that are listed in the US. This, in turn, will allow these tech companies, including BABA, to comply with US regulations. A delisting of BABA and its peers would have been possible if SEC regulators would not get access to their books — but it looks like this will not be a problem, as US regulators are now able to make the required inspections for the first time.

As long as the books of BABA are clean, which is something I assume is true, BABA should be able to comply with US regulations soon and the threat of delisting will wane. This will not directly impact BABA’s business or its profits or cash flows, but easing worries about a potential delisting could attract new investors that have shied away from BABA in the past. Recent news about China seeking better relations with the US is also positive for Alibaba, I believe, as this will ease the risk of adverse regulation in the US further.

Is There More Upside Potential?

Alibaba has risen by more than 75% from its lows. Of course, that means that it is less of a value pick now, compared to two months ago. That being said, Alibaba is far from an expensive stock right here. If things go right, the company could rally further in 2023 and beyond, as shares are still far from expensive.

According to the analyst community, Alibaba should earn around $7.50 this year (which will end at the end of March). That makes for an earnings multiple of 14 based on Alibaba’s current share price. Not only does this represent a discount versus the broad market, which trades at a high-teens earnings multiple, but BABA also looks very cheap versus its closest American peer, Amazon (AMZN), which has seen its earnings drop in recent quarters and which is still valued at a hefty 80x net profits.

Next fiscal year, which begins in three months, Alibaba is forecasted to earn $8.74 per share. If Alibaba were to trade at 15x net profits a year from now, that would make for a share price of $131, or roughly 30% higher than BABA’s price today. If BABA were to trade at 18x net profit, shares could climb to $157, which would allow for a price return of around 55%. Even an 18x net earnings multiple would be far from high in absolute terms. BABA also traded at way higher multiples of more than 30x for prolonged periods of time in the past. A 15x or 18x earnings multiple a year from now thus isn’t ultra-bullish, I believe.

Takeaway

Alibaba has not been a strong performer over the last two years. That being said, it’s up from its lows, and the outlook is improving. An economic reopening in China should boost BABA’s growth, and regulatory risks are declining in both China and the US. Since shares are still cheap, further upside potential definitely is possible, I believe.

Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.