China-Based Internet Company Alibaba Debuts On New York Stock Exchange

Andrew Burton

Alibaba’s (in the last few weeks) (NYSE:BABA) shares have slightly appreciated on the news that Beijing would ease Its zero-Covid policies, which caused Chinese citizens to protest the government recently. This is a positive thing. While the company’s development is encouraging, its impact will likely be temporary as many of the fundamental risk factors associated with Alibaba remain. These risks could manifest at any moment, putting additional downward pressure on the stock.

Alibaba shares are still in great demand today. down Since I started covering the company here at Seeking Alpha in Oct 2021, the stock has fallen by 35%. Recent geopolitical developments indicate that we won’t see a significant appreciation of the stock anytime soon. The stock is also relatively weak. earnings report For Q2, Alibaba’s cloud computing business continues under pressure. This is due to a variety of domestic and international issues. This suggests that Beijing’s policies will continue to have a significant impact on the business’s performance. As a result, Alibaba is not a good investment for long-term investors. The political risks are greater than the growth opportunities.

Cloud Business Under Pressure

I covered Alibaba’s Q2 mixed earnings results last month. My first. article Published after the latest results were released, the report highlighted the decline of core commerce in the company’s recent months. second One dealt with the existential threat to Alibaba’s Ant Group from the rise of digital yuan. This is the third and final article in a series. It focuses on the latest results of Alibaba’s cloud computing company, which accounts for 10% total revenues. It also discusses how Washington’s international pressure and Beijing’s domestic policies could hinder the company’s ability scale its cloud offerings soon.

We can once more go through Alibaba’s Q2 earnings reportAs you can see, the company’s cloud computing revenue has increased by only 4% Y/Y to RMB20.76billion in the most recent quarter. Comparatively, Alibaba’s cloud computing business was only 4% Y/Y in the last quarter to RMB20.76 billion a year ago. grown By 33% Y/Y for Q2’21. This almost flat Y/Y growth of Alibaba’s cloud company in the last months is a sign that Beijing’s domestic strategy continues to play an important role in determining the success levels that Chinese companies could achieve.

Let’s not forget that Beijing, after passing a series data security laws last January, began actively regulating the collection and transmission of data within the mainland as it was a matter of national safety. Bloomberg made it even easier in April. reported Some companies that were controlled by municipalities were asked to migrate their data to state-backed cloud providers. mentioned This year, Alibaba was made the direct competitor by Beijing in the cloud-computing market through its controlled businesses.

Due to Beijing’s decision devaluing the yuan to support its export-oriented economy, Alibaba cloud business saw a drop in Q2 dollars. The same report shows that Alibaba’s cloud revenues for Q2’22 were $2.9 Billion, down from $3.1 Billion in Q221.

Amazon’s (for comparison:AMZN) AWS, Microsoft’s (MSFT) Azure, and Google’s (GOOG)(GOOGL) Cloud have grown For the same period, it was up by 27% to 20% and 38% respectively in dollar terms. These businesses can show such rapid growth rates because they compete mostly in the U.S., while Alibaba cannot show double-digit growth because it has almost monopoly in second-largest cloud market in the globe. This indicates that there is not much growth potential in the cloud business at this stage.

Alibaba is not only competing with state-owned cloud providers but also continues to be affected by the weak Chinese economy. Beijing’s aggressive foreign policies, which limit the company’s international reach and interfere in the education sector, leave little room for maneuver. When discussing the results of its cloud business, the company’s management impliedly admitted all of these things in the latest earnings report. They stated the following:

The Internet industry saw 18% drop in revenue year-over-year. This was mainly due in part to declining revenue from the largest customer, who has been gradually stopping using our overseas services for its international business.

There’s more to the downside

Alibaba’s cloud business is not only facing domestic problems, but also external risks that could hinder its growth. Only a few weeks later announcing The latest cloud computing system, powered by chips from American companies such as Intel (INTC) and Nvidia (NVDA), the U.S. implemented the harshest export control rules that prohibit the exports of highly advanced chips into China, which put some of Alibaba’s AI and cloud computing projects at risk.

After that incident, news Recent news reported that Beijing has established a consortium consisting of companies and institutions. This consortium is working to reduce the potential export controls on Arm-based chip exports by creating new IP on chips based on open-source RISC-V instruction sets architecture. This consortium includes Tencent and Alibaba (OTCPK:TCEHY). Although it may seem like all of Alibaba’s domestic problems can be solved by cooperating with Beijing at first glance, the truth is quite different.

Alibaba’s cooperation with Beijing is likely due to the fact that it has no choice but to do so. Alibaba is required to provide expertise to the state because of China’s military-civil Fusion doctrine, which forces tech companies to share advanced technologies with the Chinese military. This creates a hate relationship between Alibaba and state. We’ve seen that the Chinese regulators first announced the largest penalty against Alibaba in history. This gives hope to investors that the worst is over. But then, later, Beijing encourages the company’s investment in the state-sponsored common prosper fund while raising the amount it currently has to pay in taxes.

The news about the development a new chip suggests that the state, and not western shareholders of Alibaba’s VIE will be the biggest beneficiaries. Alibaba shares its technological know-how, but Beijing is unlikely, if ever to change its stance to allow the state companies to use these private cloud offerings anytime soon. This could limit the business’ growth potential.

This brings us back to the second problem. Due to Alibaba’s closer cooperation with the Chinese military, it is possible that the U.S. pulls the trigger and delists the company from American exchanges. This is something that it chose not to do more that a year ago. Even a positive audit by the PCAOB inspectors would not save the stock in such a situation. We’ve seen instances where companies closely linked to the People’s Liberation Army and the Chinese state were saved. added To the list of Communist Chinese Military Companies which prevented U.S. passport holder from owning or trading any stocks from that list.

China is an interesting country, especially considering its recent history. called According to the DoD’s recent National Defense Strategy Report, the United States is the most serious threat. Meanwhile, new legislations are being developed. proposed Alibaba’s cooperation on different matters with Beijing could be a major red flag for CCP-backed businesses.

Even if the U.S. doesn’t enforce the delisting, there is always the risk that it might prohibit Arm-based chips from China in the foreseeable near future. This is especially important considering Arm’s IPO on American stock exchanges next January. This means that Alibaba’s potential to scale up its cloud offering is still limited. Both the domestic and external risks create new problems that limit its ability to grow at a comparable rate to western peers.

The Bottom Line

To my article on Alibaba’s Q2 earnings results, which described the poor state of its commerce business in China, I have added a DCF model to the article. It showed that the company’s fair worth was $115.71 per shares. It’s not based on the fundamentals. It is clear that Alibaba stock is undervalued. However, it should not be forgotten that Alibaba stock has been trading at distressed levels more than a decade and that this is solely due to Beijing’s constant indirect and direct interferences in its affairs.

Although there is a good chance that the stock will gain momentum following the news of the relaxation of the zero-Covid policy it is highly unlikely that it will be able to appreciate significantly and create shareholder value long-term. Beijing is unlikely to ease its grip on the company any time soon. The company could also be the largest casualty of worsening Sino American relations, making it difficult to justify a long-term position in its stock.

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