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Alex Cho

Alibaba Likely To Beat Sales and Earnings Estimates

Now, yes I’m absolutely biased in favor of Alibaba, as I find that much of the hype surrounding China and accounting related issues is just total nonsense. Sure, we’ve heard of various issues in the past, but leave the past in the past.

The company is relatively well positioned to improve its take-rate on every transaction flowing through its market place. Yeah, I can acknowledge that GMV growth will eventually slow in light of saturation and competitive issues but those issues aren’t necessarily a deal breaker given the ramping business lines outside of e-commerce. Furthermore, the company is extremely undervalued and much of the risks cited by other investors isn’t really material to the company’s fundamentals.

Yes, the Chinese government sometimes over-exaggerates on its retail data, but then again, over in the United States it wasn’t only until a couple quarters later that we ended up revising prior GDP print-outs to reflect the actual GDP for the periods between 2007 to 2010. Given the lagging dynamics behind economic data points in general, I wouldn’t be surprised if we hit a wave of revisions from the PBOC or the Chinese government itself. That being the case, ignore the macro themes of China and focus more on the company-specific fundamentals of Alibaba because the inherent strength of the business model is far more indicative of its future valuation than broad macro weakness. Think of buying Alibaba as if you were buying Amazon through the 2009 market crisis, but to a way lesser extent as China is experiencing a slowdown and not a recession.

Morgan Stanley believes the monetization rate will increase and convergence of mobile and desktop MR rates is highly probable given the mix-shift to branded sellers, which implies an inflection point in TMall and Taobao revenue mix-shift:

Mobile monetization rate will likely be at or above that of PC in F17. The key debate now is whether mobile monetization rate can ever approach PC's peak level of 2.9% annually, while maintaining a steady PC monetization rate. We forecast blended monetization rate to improve 12bps yoy in F17 to 2.61%, followed by 2-10bps annual improvements. Every 10bps change in F17 monetization rate for the company results in incremental addition of Rmb3.8bn and Rmb1.3bn to revenue and net income, respectively (or 2% and 3%).

Morgan Stanley goes onto mention that the incremental upside to sales will result in higher margins for the immediate fiscal year:

We tweaked our non-GAAP earnings forecasts by +6% for F17-18, mainly to reflect slightly faster GMV growth in Tmall and stronger assumptions for monetization rate recovery. In addition, we also raised our outer-year EBITDA estimates (F19-25) by 2-8%, largely by increasing our assumptions for monetization rate by 13-20bps. This reflects our expectation of long-term monetization rate improvement given B2C GMV mix shift as well as advertising budget allocation to Tmall. As shown in the exhibit below, we have increased our long-term monetization rate to 2.82% (vs. 2.62%), resulting in a revenue CAGR of +30%.

For the most part, the analysis was pretty consistent on the part of Morgan Stanley. Given the heightened demand for branded products, I think Tmall is due to grow at a heightened rate relative to Taobao. Furthermore, the monetization rate should also improve given additional ad-mix and shift to mobile. The incremental opportunities haven’t been adjusted too significantly higher, but I think there’s some additional upside to Morgan Stanley’s long-term revenue assumptions, which implies that the DCF Sum of the parts valuation could prove somewhat conservative. Morgan Stanley raised its price target from $101 to $115, and adjusted EPS of 6.12 (RMB). This sits above the consensus estimate of 5.78 (RMB).

I haven’t arrived at my own price target, but will provide one following the company’s earnings announcement. I think the company is heavily undervalued, and continue to reiterate my high conviction buy recommendation. The broader consensus is a lot less aggressive than Morgan Stanley, and the incremental upside to revenue estimates indicate that an earnings beat remains a high probability. Of course, Alibaba doesn’t provide full-year guidance, which is why there’s a lot of variability on estimates. At this point, expectation risk seems fairly limited going into the quarterly report.

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