Alibaba: Investing For Growth – Alibaba Group Holding Limited (NYSE:BABA)

Alibaba (NYSE:BABA) is making sure it has a strong foothold in markets with significant growth potential. In a recent move, Alibaba along with its partner Paytm has invested $200 million in BigBasket’s Series-E funding round. BigBasket is India’s biggest online grocer and has raised over $570 million in 9 funding rounds. Although the exact stake is not known, BigBasket’s estimated valuation post-money is believed to be close to $1 billion. This would put Alibaba’s stake at over 20%.

A few weeks back, Amazon (NASDAQ:AMZN) was also looking to invest in this company according to a Bloomberg report. Alibaba’s investment can serve as a defensive play against any future buyout possibility by Amazon. Recent investments by Alibaba in Southeast Asia and India should provide the company with a long runway for future growth and will also act as a hedge against a possible slowdown in Chinese market. A well-diversified revenue base should help in improving the bullish thesis for the stock.

Fig: Indian grocery market is the third-highest in the world. Source: Forrester

A recent research report by Forrester valued India’s grocery market at $428 billion which makes it the third largest in the world after China and U.S. However, only 5% of this is estimated to be organized. By entering this market at an early stage, Alibaba wants to make sure that it is one of the key players as this market matures and more customer spending moves to the online grocers.

This market also includes one of the most expensive brick and mortar retail stocks in the world. Avenue Supermarts Ltd, which owns D-Mart had its IPO in March 2017. It has a current valuation of over $10 billion with a PE ratio of 125 and sales of close to $2 billion. This shows the future growth potential which the investors are betting on for organized retail players in India. BigBasket has shown annual sales growth of 200-300% in the past three years which has taken its Gross Merchandise Value (GMV) to over $500 million on an annualized basis.

Amazon wants to corner a big share of Indian retail market by investing in the grocery sector. It recently got regulatory approval for investing $500 million in grocery to create requisite supply chain. It is heavily discounting Amazon Pantry and Amazon Prime (annual subscription for only $8) to engage more customers within its ecosystem. Amazon’s Indian operations and future growth scope is often cited as one of the factors which can provide long term growth to the company. If Alibaba is able to stop or limit Amazon’s growth in India, it will give a decisive proof of its better business model and improve its future growth scope.

china online slowdownFig: Gradual slowdown in online retail growth in China. Source: Deloitte Research

Deloitte has estimated that by the end of this decade the rapid growth of online retail in China will gradually decline to low 20’s as the law of large numbers takes effect. Alibaba has been able to show good growth momentum, but a faster than expected slowdown in its core retail market of China will have a significant negative impact on the stock. By diversifying into Southeast Asia and Indian market, Alibaba can ensure that the stock keeps its bullish momentum as these markets provide a long runway for growth.

If these investments end up gaining a significant market share in their respective geographies, it will provide a “growth story” premium to Alibaba’s stock. BABA is currently trading at 32 times its consensus EPS estimate of fiscal 2019. This is much lower than direct competitor (NASDAQ:JD) which has a multiple of over 150. On the other hand Amazon’s negligible earnings makes its valuation totally dependent on future growth potential of the company.

Alibaba’s digital media and international operations might be losing money but the enormous sales growth potential still makes them a big positive for the stock. These segments will provide Alibaba a sizable growth premium besides the current valuation which reflects the growth within its core commerce and cloud services.

Investor Takeaway

A headlong battle between Alibaba and Amazon might happen much sooner than expected. The ideal battleground would be Southeast Asia and India. Both the retail giants have invested billions of dollars in these territories to ensure they gain a significant share of retail market. Alibaba’s recent investment of $200 million in BigBasket not only provides it with a decent stake in the largest online grocery player in India but will also prevent any future takeover possibility by Amazon.

Alibaba’s current valuation has not fully priced in the growth potential of international operations. Jack Ma has said that he would like revenue contribution of international operations to rise from the current 6% to 20-30%. We should see these international bets start showing results in the next 4 to 6 quarters which can give a good bullish momentum to the stock. Alibaba remains a strong buy at the current price point.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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