Kevin Frayer
Introduction and Thesis
China’s political risks are likely to keep investor sentiment surrounding Alibaba (NYSE:BABA) at its lows. Throughout the past few months, many investors have pointed out that Alibaba’s significant valuation consolidation was a result of negative investor sentiment surrounding China’s economy and Chinese stocks because fundamentals including future growth potential surrounding Alibaba remained strong. However, I believe bullish investors are only looking at Alibaba from an economic lens. Investors should instead be also using a political lens when looking at Alibaba. The ingrained risks from investing in China’s tech conglomerate in times of President Xi’s goal of achieving social and political stability create risks that overshadow the potential growth opportunity the company has. No matter the low valuation or the strong future growth opportunity, a negative view from the Chinese government can reverse all these positive sentiments. Therefore, I believe Alibaba is a sell due to the company operating in an unstable and extremely risky political environment.
Background: Political Risk
In the past few years, we have all seen President Xi’s ambition to achieve social and political stability whatever the cost may be. These efforts have been seen during zero-Covid policies for social and political control, equal wealth distribution through regulating gaming, casinos, and private tutoring, and regulating big tech conglomerates and their influential founders for political stability against Western capitalism and ideologies. These examples are hints to the future President Xi and his single-party dreams of complete social stability and political control. Sadly, I do not see Alibaba prospering in the future.
President Xi has shown the world that he will sacrifice economic gains for social stability and the state’s control over its people with a zero-Covid policy. Despite China’s economic growth expected to slow to about 30-year lows, President Xi does not intend on curbing back zero-Covid policy where entire sections of the city or a whole region is shut down with even few Covid cases. In fact, during President Xi’s speech at the 20th National Congress, President Xi praised the zero-Covid policy and doubled down on it. This shows what President Xi values more, social and political stability over growth.
Further, I think in the eyes of President Xi, long-term control and stability require equal wealth distribution to keep its people satisfied with the current ruling party. This ideology has led to the widespread banning of casinos or gambling, gaming for minors, and private tutoring. For-profit private tutoring has been banned because it was too costly for working-class families, underage video gaming has been regulated citing that it is the modern-day opioid, and casinos have been regulated citing similar societal addictions. These acts, imposed in the name of social and political stability, have effectively wiped out their respective industries. Again, through these actions, President Xi’s intent on achieving his ideological goals far overshadows the economic impact brought by these decisive actions.
Finally, President Xi likely views the big tech conglomerates and their influential founders as a core risk to his political stability. He is probably intent on stopping western capitalism and its ideologies from taking root in China as it could risk political stability. Alibaba, a tech conglomerate that has fallen out of favor with the Chinese government, is an example. After Alibaba’s founder Jack Ma talked foul of the Chinese government saying that “we cannot regulate the future using yesterday’s means” targeting the Chinese government, he went missing for about 3 months in 2020. Chinese government viewed such a speech as a challenge to its authority and stability coming from western capitalism and its ideologies. As a result, authorities canceled the IPO of Ant Group, a subsidiary of Alibaba that owns Alipay, and started an investigation into Alibaba’s monopolistic behaviors. After a few months, investors have largely forgotten this situation as it has not destroyed the company. However, I view the damage that Jack Ma did to be permanent. Since 2020, Alibaba’s main competitor in China, JD.com (JD), has slowly gained ground against Alibaba before finally beating Alibaba’s growth rate starting in 2022. Alibaba is likely viewed as a potential risk by the Chinese government because of Jack Ma, its founder, and because the Chinese government with absolute control values social and political stability above anything else, future political risks remain one of the major risks for investors. The Chinese government has the power and the will to put an end to Alibaba.
E-commerce is most likely not in President Xi’s core industries for future prosperity. It is not like semiconductors, artificial intelligence, battery, or any of the industries China probably sees as vital to its future. As such, for the government putting social and political stability through absolute control above anything else, I think Alibaba can be viewed as a replaceable commodity to the government. If the company acts against the government or talks foul of the government as Jack Ma did, replacing Alibaba with any of its competitors should not be a problem. Given these unpredictable political risks, how could investors confidently invest in Alibaba? Political risks in China will likely keep investor sentiment at its lows, decreasing the potential for valuation expansion in the future.
Valuation and Financials
Despite political risks, some investors may point out that the current low valuation and strong future outlooks combined with the strong financial position create opportunity. To some extent, this may be true and pose a risk to my bearish thesis. The company is trading at a forward price-to-earnings valuation multiple of about 11 with low double-digit growth rate expectations through 2025. Further, given the strong balance sheet consisting of about $20 billion long-term debt, $26 billion cash, and only about 36.5% of the total liability to asset ratio, financial health is exceptional. Both growth opportunities backed by strong financial positions seem as if Alibaba will see a valuation multiple expansion upon favorable market conditions and investor sentiment, but I believe the bearish view that I have presented earlier overshadows these positive upsides. Do the company’s financial health and growth opportunities really matter if a single foul rating from the government can change the trajectory of the company almost instantly? I do not believe that it is worth the risk.
Summary
Looking at Alibaba from an economic lens may only show the bright future, leading one to potentially conclude that the market is misunderstanding a gem. However, when looking at Alibaba from a different lens, it starts to make sense why investors have negative sentiment over this company. The last thing investors want is unpredictable risks, and Alibaba faces unpredictable political risks. I believe President Xi and his ruling party view stability and control as the most important agenda, but Alibaba has a history of going against such a law. Therefore, I strongly believe that investors should avoid investing in Alibaba as the company operates in a risky political environment, which has the potential to keep the sentiment and growth rate surrounding the company low.
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