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Alibaba has a market cap, in USD, of 233B. It holds a lot of net cash also, about $50B, which it hardly needs given its huge cash flow of about $25 billion.

China is in the midst of being viciously downtrodden in the media by Washington for three core reasons: Firstly it is a region that has for 70 years been run stupendously successfully when you compare its initial conditions to its present conditions. They had to firstly fend off our dirty hands from the late 1940s and then manage their development from dreadful initial conditions that we cannot even contemplate. If you want to make comparisons the closest examples, which we label as democracies, and with similar (in fact somewhat better) initial conditions then two examples shine - India and Indonesia, and their path was exceedingly less successful. Second reason is that the region isn't easy to coerce, such these other larger regions Indonesia and India which we have been able to politically influence far more greatly. And thirdly, because the place simply *exists* in an organised state.

If only one of these three conditions did not hold tomorrow, then the situation would be acceptable to us, and the place would no longer be framed as an enemy. But with all 3 conditions, it is absolutely unacceptable and at least one of the 3 conditions needs to be put to an end. If we cannot coerce the county politically, we will smear it and go to hysterical lengths. We won't acknowledge its ongoing successes at any point. We can also attempt to slow it down - without any regard to the harm and welfare of the public; if its relative prosperity declines then that is an important win.

This sounds ludicrous but it is the essence of Washington's strategy toward China, with London - and Europe a little further behind but sufficient obediently - falling into line.

With that backdrop, let us look at Alibaba as an investment opportunity.

Even with such tech companies hoarding cash without the operational need for amount hoarded, I always like to subtract the cash from the market cap to present the amount a private investor would need to pay for the whole firm. This seems strange given we cannot access the cash but it is important to do because of the mutability of cash - it can be used for purchases of new earnings streams. In this case $183B (market cap $233B minus $50B net cash).

What would you pay for $25B of cash flow growing around 10% pa the next 5 years, these days? The last 5 years Alibaba grew it 15% from $15B to $25B (shares outstanding about the same as 5 years ago). To remind, this is the growth rate *with* the high cooperation with private enterprises such as Alibaba towards state intervention, so we don't need to double count by moderating growth further by our negative view of corporations (and shareholders) holding less political power in China as our corporations command over Washington. Keep in mind that it was China's controls over private capital in the 1950s and 1960s that set the crucial conditions for the country to subsequently flourish, with private capital applied later largely as an important global integration policy to grow into the next phase.

With this enterprise value of $183B private buyer is able to buy Alibaba for 183/25 = 7 times its cash flow.

7 times cash flow, with cash flow having grown 15% the last 5 years: It feels like being back in the 1950s with Ben Graham getting excited nearby.

That is, however, it is only a good deal on the condition (which many will not accept) that you can firstly hold healthy skepticism/proportionality towards the anti-China propaganda aimed squarely at us by Washington, and secondly to treat the Chinese regulators as a far more equal partner than we are accustomed to treating regulators with our US firms.

There is a good future ahead in China. Deals like this do not come around often, and when they do, you invariably will find that only a small minority at that moment believe them to be a deal. This need not be a contrarian observation, but rather that it is the negative consensus, straight forward neglect, or impatience, itself that permits the right quote to make them a deal.

- Manlobbi

Hi Manlobbi, thanks for the commentary. I agree that the consensus view on China, and Alibaba, is excessively negative. I hope that BABA can get back to growing cash flow at 15% per year, but I'd probably project a more conservative 10% given Chinese population is now declining and BABA is already so enormous and heavily used there.

I am holding on to my BABA, though I'm not too pleased with the prospect of 5 spinoffs, as presumably some of those will only be traded in Hong Kong, presenting additional expenses if/when I eventually sell.

But, the Chinese government has hopefully finished punishing Alibaba and other tech companies ... I know they made a number of moves to get in line with government directions. Also, China has hopefully put the vast bulk of impacts from Covid in the rear view mirror, which should help growth resume.

I saw recent news that Alibaba is focusing on growing their European business, which would be a huge market for them to grow into if it works out.

I do worry some about the moves to consolidate power by Xi.

great contrarian thesis.
personally, i wonder how many retail foreign investors have actually REALIZED gains from investing in individual chinese stocks the past ~2 decades. (given that the majority even underperform u.s. indices) regardless, simply from fund flows, the popularity of excluding china now from various funds\ETFs will start playing a role.

being the rare non-fan of munger and his hypocrisy, it is an interesting reference for shred'm that he found alibaba to be his worst investment ever, and NOT on the basis of
- being in china
- the price he paid


https://www.michellemarki.com/charlie-munger-expla...

<<great contrarian thesis.personally, i wonder how many retail foreign investors have actually REALIZED gains from investing in individual chinese stocks the past ~2 decades. (given that the majority even underperform u.s. indices) regardless, simply from fund flows, the popularity of excluding china now from various funds\ETFs will start playing a role.>>

Chinese stocks, as well as European stocks, the last ten years have certainly realised poor capital gains, however this is not so much a function of earnings declining but rather the valuation multiples remaining low, and in the case of China the multiples falling considerably (the CAPE ratio in Shanghai fell from 70 in early 2008 to around 20 today). If you compare US stocks to European stocks over history, the CAPE ratios (earnings multiples) were highly aligned. Then something significant started to happen: Over the last decade the valuation multiples of US stocks compared to stocks elsewhere in the world suddenly increasingly diverged, and pretty spectacularly. As a result US investors have realised enormous increases in wealth since 2010, but not mostly from the rising earnings but rather from the rising valuations. As a largely US stock holder myself, I thank not skill but luck that this occurred up until the present.

If you look at the underlying earnings though, you see something different. The US stocks have not actually outperformed Chinese stocks to the manner we observe when just looking at the stock price. Indeed as you infer what matters is our realised return; however from here into the future what matters is the product of (1) the earnings growth and (2) the change in valuation. Having already seen a large positive change in valuation with US stocks, from here the only place to go is to either retain the high valuations, or realise lower valuations over the long-term. In the case of the Chinese firms, their valuation pressure is in another direction - they are unlikely to fall significantly (or the earnings yields would just become too seductive and more investors would step in) but they have an opportunity to rise.

<<being the rare non-fan of munger and his hypocrisy, it is an interesting reference for shred'm that he found alibaba to be his worst investment ever, and NOT on the basis of
- being in china
- the price he paid>>

This is a very good point and I discussed it emphatically at the Manlobbi Descent board when TMF was still around - the main problem Alibaba had was straight-forward business competition rather than regulation pressure; the latter being far more in the press but the former was what hit their core earnings.

Like Munger I was too optimistic about the durability of Alibaba's earnings against the other online retail competition. The IV10 formulae in 'Manlobbi's Descent' presents a mist of outcomes, with IV10 defined as using the lower estimates within this mist, but the mist I projected was not cast widely enough. The Steadfastness is intact but the IV10 estimate - which is a lower bound - was out. But Steadfastness itself - ie. the firm being around in 20 years with no risk of catastrophic loss or bankrupsy - is intact.

Getting the IV10 wrong in the past, though, does not relate to ever-present calculation as to what to do in the, well, in the present. At 7 times cash flow, you don't even need an organic increase in earnings to have an excellent return. Whether Alibaba use the huge cash flow to buy back stock, or merely use it to purchase new earnings streams, then in both cases at a per-share level it effects us very much.

To illustrate, consider the following though experiment. If you have a choice between (1) holding a firm (producing a lot of excess cash not needed for operations) at a high multiple for 20 years, and it finishing at the high multiple, or (2) holding the identical firm at a very low multiple for 20 years and it finishing at the low multiple, then which investment are you better with? In both cases you get to buy at the initial earnings multiple. Very few investors realise that they'd usually be a lot wealthy holding the second option. The reason is that the firm can buy back stock at lower prices and/or pay out a higher dividends relative to the initial investment. The change in multiples is the same, but the earnings per share grows more in the case of the stock remaining indefinitely at a low multiple whilst shunned.

- Manlobbi

If Chinese stocks have a bright future, why not just buy FLCH or a similar China-focused ETF or MF? Add a dash of FLHK for old-timey Hong Kong-listed companies. ERs of 0.09% and 0.19% respectively.

BABA is a dud. Munger lost his stockpayers' shirt on it. Jack Ma likes to treat BABA as his private slush fund. And is in bad graces of Xi (witness the Ant IPO fiasco). And may have health issues.

I don't see why BABA is better than Tencent, Baidu, and smaller companies like Vipshop.

FWIW I think that China-US relations are already getting to cold war level. Except China is a far more formidable adversary than Russia. Still, there is speculative money to be made due to low valuations and possible ease of authoritarian interference - at least the type that shrinks profits. I don't care about immoral practices (but you may) - like Uighur slavery, censorship, lack of freedom of speech. They have not affected Chinese companies' profits.

My bad, FLCH has an expense ratio of 0.19% and FLHK of 0.09%; not the other way around.

-Buying low FCF / PE
-Still been buying more BABA up until recently in the 80's despite lots of negative macro news but at some point I expect this will rebound like META.
-I expect EPS will be at c$10+ in a few years.
-I very much like Tencent too direct not via Prosus for the same reasons.
-These are two best in class companies so why would you not buy over an index, why hold the dross?
-Similarly in the US why hold an index?, I've done very well with Alphabet and META. Held META all the way down from an average of 180 to 88 and hack up to present and took a large position in Alphabet in the 80's.
-Who knows where the market will be next year but I'm happy with the portfolio balance and adding selectively to low PCF and PE stocks (normalized earnings) favouring China over the US at present valuations, beyond that I haven't got a clue but I'm sure no one else does either, esp Joe Biden.
KISS?

God save the Queen.

<If you want to make comparisons the closest examples, which we label as democracies, and with similar (in fact somewhat better) initial conditions then two examples shine - India and Indonesia, and their path was exceedingly less successful. >

Graham Allison has written an article comparing India with China:

https://foreignpolicy.com/2023/06/24/india-china-b...

Yep. Still buying BABA and Tencent atm and will continue to do so.

Thanks for posting your analysis there Manlobbi. Much appreciated.

'7 times cash flow, with cash flow having grown 15% the last 5 years: It feels like being back in the 1950s with Ben Graham getting excited nearby.'

When you say 7 times cash flow: what does that broadly include and exclude?

Presumably that is excluding capex?

SBC excluded?

7x, 8X, 9x: doesn't matter much anyway compared to 22X if it was a US firm.

It certainly is better value than US big tech and I would expect it to do well if purchased at current prices over the next 10 years.

Like many others, I am under water on this one but plan to hold all my investments until the bitter end. We will see how it plays out. I don't mind having some money in China in this uncertain western world from a diversification perspective.

Expanding government debt service and the risk of strangers becoming less enthusiastic about buying US treasuries and U.K. gilts, which would result in continued money printing, is a risk and maybe some money in China is not a bad thing.

I generally take my lead from Buffett and am about 80% Berkshire and therefore betting heavily on the US. But a little Alibaba and Tencent helps me sleep at night, particularly when they are statistically cheap and arguably very strong businesses.

Best wishes
EVBigMacMeal

Just looking at the table in the financial statements that shows the reconciliation of net cash provided by operating activities to free cash flow for the 12 months ended 31st of March 2023. Free cash flow, estimated at US$25 billion. This number is after US$4.4 billion property and equipment. I'm guessing this number does not include a deduction for share based compensation.

Taking the current market capitalisation, less cash does indeed give a free cash for multiple of just a little over 7X before SBC, which of course is a very compelling valuation.

It will be interesting to see if any of their businesses get spun out and raise new finance, particularly if they are loss-making and depressing the 2023 free cash flow number of $25 billion. And of course it will be interesting to see how year ended March 2024 unfolds without The Covid shutdown. Although perhaps it will be around 2025 before all of the enormously disruptive changes in governance and restructuring or washed through the organisation.

BABA has been an interesting investment for me. One of my brokerage accounts is showing a 65% loss as I type. I think overall I’m down around 50% but it’s too painful to look!

It’s a brilliant personal case study for me. I consider myself to be really honest with myself when it comes to investing.

Stage 1. I notice Munger buys BABA. Early 2021 I think. Click whirl…he is an investment master. Smarter than Buffett. I mad a killing on BYD after copying his move. Let’s have some more of that. And it’s another Chinese firm. Great. I do almost no research. I vaguely know it’s maybe 15 or 20x. It’s got great businesses. China is going to do well long term. Li Lu also owns it. It’s down quite a bit from all time high on concerns China is cracking down on private sector + Ma goes missing + VIE concerns + Chinese financial statement concerns. I figure Munger buying suggests the financial statements must be sound. Li Lu’s local knowledge of the business. Munger confident about China long term. Munger fish were the fish are & US companies not as strong and too expensive. Munger rarely buys anything and only if it’s a fat pitch. I buy some.

Stage 2. It goes down. Okay that can happen. Then it goes down some more. Then Munger doubles down. On hearing that, I rush to buy more of this even cheaper quality firm, I can hold forever and enjoy the big trends: rise of China, tech etc.

Stage 3. It keeps going down. I keep buying. But starting to become concerned. I think about one of laws to investing. You have to do the work personally so that you have the conviction to hold when the market disagrees with you. I tell myself, I may not have done the work on BABA but I have studied Munger in tremendous detail.

Stage 4. Munger sells half of the DJCO BABA position. Well this is interesting. If Munger exists I will have no hesitation following him even if anchor bias prevents me from taking a loss and previous commitment bias to hold forever. But wait, word is it would have have been rational for DJCO to take a tax loss. I hold.

Stage 5. CCP continues to hammer big tech. VIE concerns intensify. Global institutional investors start exiting China en mass. Share prices continues to fall. I am not buying any more of this and may avoid China altogether from now on. I hold.

Stage 6. CCP lays off a little. Munger says unlikely VIE is an issue: sage to assume contractual relations between big nations continue. Restructure plan at BABA. Share price recovers somewhat from the lows. I think maybe it will work out…eventually.

Stage 6. Spin off falls over. Cloud business not doing as well as hoped and buyers not interested. Stories about management changes. Loosing market share to competitors. Shit just got real. Munger says it was the biggest mistake of his life. It was more of a retailer than a tech firm. I can’t watch as too painful. Share price hits new lows daily. I take a glance at the financials and it looks ridiculously cheap. Reminds me of when I bough McDonald’s in 2002 at 5x FCF because negative a couple of years of negative sales comps had convinced the market it was a dying business. But went on to go from $12 to $295 today. I sold that one at $23, idiot. I hold. (Sequence of events here not correct)

Stage 7. Munger passes away. My reason for buying. I miss Charlie. He was an absolute legend. His financial record and his contribution to Buffett’s and Berkshire’s is evidence he was one of the greatest investors ever. But of course his contribution to the world was much greater than his investment record.

Stage 8. Charlie is gone now. I am along in deciding my fate with BABA. I think about that other fundamental iron rule of investing. You are neither right nor wrong just because someone else agrees with you. You are right only if your reasoning is sound. Further, even the great investor only hit 7 out of 10. Buffett may be a rare exception. I have seen him make very few errors. A couple of things that didn’t do much like IBM but he almost never has a realised loss. The pandemic caused a few problems but the timing of that was unknown.

My plan is to spend some time over Christmas looking much closer at BABA. Humans have a bias to cut and run to stop the pain. Munger gone gives me a psychological way out. However, I have improved as an investor over the decades and I hope I will be rational enough to look at the facts and take my decision accordingly. Valuation will be a compelling reason to hold, plus the quality of the business despite recent challenges. China is a hard one. I will take comfort from Munger’s comments that the Russia experience in Ukraine will put China off thinking about Taiwan for a while (which would be game over for not just BABA). I will have a strong bias to hold, as I know the current situation can easily blow over and 20 years from now it might do well. We’ll see…

(Apologies for the typos. Have to run)

I've been watching the broader sector. I find the price action of PDD encouraging. I'm happy to hold BABA and think as full year results continue to filter through (Feb 2024) and full year EPS are published price action will begin to be reflect the underlying value. I hope so anyway! 😂. PDD up 68% YTD trading at 33 x PE if BABA traded at a similar valuation it'd be $297 based off a full year of 9$ per ADR. 180$ is more my target for the next few years, based off 20 x PE and a 9$ base.

And I'm still nibbling here and there to bring my average down.

I've been through so many up and downs over the last few decades. I don't feel any emotion about investing any more. I just look at the numbers and think do I want to be "here" or "there" ie at 30 x FCF / earnings (US Tech) or 8 x FCF / Fwd PE (China Tech)

I read through the recent Alibaba financial reports…

I’m not sure if

A. I am being lazy and going along with the Western consensus that the Alibaba reports are just too difficult to comprehend, or

B. The financial statements are deliberately trying to deceive me.

C. The financial statements provide all the information I need to get a handle on how the business is performing.

I kind of gave up but my initial impressions are below. Correct me where I am clearly wrong.

The new CEO is one of the original people that was around when Jack Ma founded the company. He spent several years since then, working on investments and knows exactly what drives financial markets. Risk that he is a skilled financial engineer.

I’m pleased he knows what the business is about and has a credible plan to turn around both business performance and stock market rating. The plan is well known: decentralise and reawaken entrepreneurial culture; break up and part sell off areas other than the core online retail businesses; achieve a stock market re rating and some business growth.

Some of the non core retail businesses (although not currently loss making or not generating meaningful earnings for the group) have very interesting market positions and enormous potential. The combination of the access to data on essentially a billion Chinese along side AI plus a dominant cloud position in China looks valuable for example. The recent failed IPO of the cloud business was due to US preventing advanced chip exports to China. Knowing the Chinese, I wouldn’t be surprised if they found their own solution and quickly. The investment in Ant Financial also looks valuable long term.

My reading of the current plan is to focus investors on free cashflow and cash on the balance sheet. Highlight that the free cashflow multiple to enterprise value is unusually low and under values the group. Lay off staff and cut costs and investment driving the free cashflow number. Unclear if the lay offs were removing previous inefficiencies, or under investing to drive free cashflow in the short term, at the expense of long term competitive positions. Hopefully the former.

There are three important areas I would like to understand:

1. Share based compensation. The focus on free cashflow is standard practice among tech firms. Alphabet is just the same. But that doesn’t make it right. I read the note on share based compensation and was lost and switched off. I know SBC is a big clip that must be taken into account after free cashflow. It explains the huge difference in the PE ratio based on earnings (excluding gains/losses on investments) and the FCF multiple which appears ridiculously low. How do they calculate the P&L SBC expense and how does it develop over time? I don’t view SBC as some, one off bonus for management excellence. It is more likely, as Buffett explained years ago (when it didn’t even go through the P&L) a normal cost of doing business. Alibaba can’t recruit, retain and motivate employees without paying them with equity in the business. I respect the employees in any tech firm demanding market rate compensation. But I do object to Alibaba and the standard practice of issuing shares out of thin air and then buying them back in the market with shareholder’s CASH, which keeps the share count from increasing too much and then asking me to focus on free cashflow. As I say, it’s standard practice in most firms but it looks like a big material number at Alibaba that I don’t have a handle on. For now, I will assume Alibaba is really around 9 or 10 times enterprise value.

2. Loss of market share to competitors in the core online retail businesses. Free cash flow has not fallen off a cliff, as you might assume from reading western media reports. There have been changes in the market place in recent years with how consumers buy online. Competitors were quicker to capitalise than Alibaba. The evidence for this are the large revenue increases experienced by competitors, while Alibaba’s revenues have been flat. Suggesting the overall market for online commerce is growing rapidly. Has Alibaba suffered from being a big slow to move organisation, combined with regulatory interference causing all kinds of distractions? Or is the moat just not that good? Or is is reasonable to believe that with the (understandable) anti monopoly interventions now complete and a new CEO with an entrepreneurial plan, combined with an incredibly big balance sheet - that Alibaba will still be around 20 years from now fighting it out with competitors. It’s a really important question and will largely determine my return from here but I see no reason to believe they will not be successful.

3. If some of the non core businesses are spun off, will they be sold off at below true value? I would like equity in any spin offs and obviously no funny business. Wider distrust of what might happen. I have some recollection of shady deals with Ant Group.

My current impression is that Alibaba was in an incredible position a few years ago. The combination of the dominance in online retailing and the payments business was an unusually strong position to be in. That is gone now but we are still left with some incredibly strong and profitable businesses with great long term prospects. That is valuable and they are not ordinarily on sale in the stock market.

Price is cheap, particularly considering how earnings are depressed buy the next generation business offshoots. And if these assets turn out to be very valuable for current shareholders, we are getting them for free.

I wonder why Charlie Munger was happy to buy at more than twice the current multiple. He clearly saw an incredibly strong business. Maybe it’s no longer just as strong. The next two years of trading will help reveal the strength of the organisation.

I will continue to hold and am looking forward to understanding the organisation better. Will certainly be interesting to watch what happens.

I think Munger was simply happy to pay up for the growth rates until it was all choked off by the CCP.

10 year revenue growth 2011 $1.7bn >>> 2021 $109bn 2021

10 yr Free cash flow from 2011c$1bn >>> 2021 $35bn.

And.. when he bought in at c$230 (2021) a share it represented about 17xFCF and he said he preferred more bang for his buck compared to the US valuations which were probably 25-30 x cash flow for the likes of Alphabet and Meta at the time.

Thanks for your notes.

For now, I will assume Alibaba is really around 9 or 10 times enterprise value.

Can you explain what you mean by this?

Broadly speaking the current market price for Alibaba, less cash dividend by free cashflow is around 6 or 7 but that increases if you allow for stock options. Still incredible cheap for a collection of businesses of this quality. But I have not looked at it too closely to be honest and detailed and useful information is limited.

One important thing I came across recently but did not mention or verify was that Alibaba’s net margin is high and significantly higher than its competitors. I have a lot more work to do on Alibaba but I suspect it is a rare opportunity to pick up something of this quality at this price. Come back in 10 or 20 years and see what has happened compared to alternatives, which might include high quality businesses at expensive prices, or lower quality businesses a low prices…it’s certainly an interesting opportunity at today’s price. That said I notice Buffett isn’t buying. Investing is hard…

Yes BABAs margins are higher as they take transactions fees from connecting buyers and sellers rather than holding inventory like other e commerce companies. They're more like an eBay vs an Amazon JD.vom is more like Amazon.

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