Alibaba’s (BABA) investor day last week helped reinforce two key tenets of our investment thesis: (1) Alibaba can still grow even against an uneven economic backdrop, and (2) Alibaba is just starting to scratch the surface of monetization opportunities across its various marketplaces and platforms.
Most of our discussions with investors following the event have focused on management’s five-year targets, including 1 billion annual active consumers and CNY 10 trillion in gross merchandise volume, or GMV, from its China consumer business by fiscal 2024 (implying a five-year GMV compound annual growth rate of almost 12%). While the active customer goal is aligned with our model, the GMV target is below our CNY 12 trillion estimate heading into the event. We believe some conservatism is warranted, given uncertainty over the impact of trade war rhetoric on Chinese consumer confidence. However, we still view the Chinese consumer as healthy--backed by wage growth, solid personal balance sheets, and access to consumer credit--and see CNY 11 trillion as a reasonable target for fiscal 2024 after factoring in wealth creation among Tier 3-5 cities and rural customers.
Untapped opportunities
The event also demonstrated further evidence of engagement among the users and merchant enterprises on Alibaba’s marketplaces, reinforcing the network effect underpinning our wide economic moat rating. In our view, stronger engagement will not only drive improved monetization of Alibaba’s China/international marketplaces and cloud businesses but also unlock untapped growth opportunities in its financial services, local services, and offline retail segments.
While we plan to reduce our five-year GMV target to CNY 11 trillion (implying almost 14% annual growth), we still see low 20s average annual revenue growth and high 30s adjusted EBITDA margins as reasonable targets for the next five years due to new monetization opportunities. We maintain our $240 fair value estimate and believe the current price offers an attractive entry point for longer-term investors.
The investor day cemented our long-standing view that Alibaba isn’t necessarily dependent on a strong China economy for continued growth and market share gains. Engagement numbers across Tmall and Taobao (as measured by revenue per active buyer) continue to grow in the high teens as merchants better attract consumers through Alibaba’s unique targeted marketing, omnichannel solutions, and product development capabilities. We also expect increased adoption of 88VIP (Taobao’s membership platform) and the introduction of games, live streaming, and interactive entertainment products such as Taobao points and Taobao Life to drive greater marketplace engagement over time and strengthen Alibaba’s broader network effect. Despite the reduction in our five-year average annual China retail marketplace GMV forecast to 14%, we believe increased engagement efforts will drive average annual China retail revenue growth rates to approximately 20% over the same period.
Globalization should also be an increasingly important driver for Alibaba in the years to come. Despite certain markets performing better than others, management appears fully supportive of Lazada’s operations in Southeast Asia and is unlikely to acquire other local players. Unlike Alibaba’s China operations, Lazada sorts 75% of the parcel volume going to customers and has last-mile coverage across 70% of its operating markets in the region. We believe these logistics advantages will be critical in incubating many of the same monetization opportunities that Alibaba has capitalized on in China, including local services, offline retail, and cross-border trade. We also see the acquisition of NetEase’s cross-border online commerce platform Kaola as complementary to Tmall Global. Given the dual-brand strategy--Tmall Global will continue to use a third-party model, while Kaola will deploy a first-party model--global merchants will have greater flexibility in their go-to-market strategies, which should help Alibaba to accelerate its import services.
Amazon of the east?
While management remains in investment mode with AliCloud, we expect this business unit to maintain its leadership position with China’s public cloud industry (with roughly 43% share as of the first quarter of fiscal 2020) while offering several new services to improve the company’s margin profile. While AliCloud is unlikely to take the same path to margin expansion that Amazon Web Services did because of competitors like Tencent, we believe differentiated or specialized offerings like data analytics tools (including the Alibaba Business Operating System platform designed to enhance physical retailers’ operations, but which could also be adopted across financial services, logistics, and transportation/local services), artificial intelligence, autonomous vehicles, and blockchain offer new monetization opportunities for China enterprise customers. Taken together, the investor day presentations gave us greater conviction in our estimate of 35%-plus average annual top-line growth from AliCloud in the next five years, driven by not only new customers but also greater services adoption among existing customers.
Engagement was also a key theme for Ant Financial/Alipay, in which Alibaba now owns a 33% equity stake following the closing of the previously announced acquisition (before the transaction, Ant Financial paid fees amounting to 37.5% of its pretax profits to Alibaba). Management noted that 190 million of Alipay’s 870 million active customers utilize all five categories of its financial services offerings: payments, wealth management, financing, insurance, and credit services. Additionally, 55% of users use Alipay for “lifestyle services” such as transportation, entertainment, and public utilities, reinforcing the company’s ability to extend its network effect beyond traditional marketplaces. Alipay also enhances Alibaba’s globalization story, with the number of customers using Alipay outside mainland China rising 130% during the 12 months ended Aug. 31.
A billion buyers
Our model continues to assume a revenue compound annual growth rate of 22% for fiscal 2020-24, including 36% growth in fiscal 2020 (before adjusting for Kaola). We anticipate that higher spending among online shoppers, a growing user and seller base, and adoption of personalized mobile marketing services will all contribute to Alibaba’s online retail revenue growth. Our five-year revenue forecast is largely a function of average annual China retail GMV growth around 17% for fiscal 2020-24, monetization rates moving from 4.3% in fiscal 2019 to 5.4% in the next five years (aided by GMV from the business-to-consumer marketplace, a steady increase in mobile monetization rates through opportunities like merchant recommendation fees, and new fulfillment and inventory bundling services from Cainiao), and greater contribution from cloud computing (38% average annual revenue growth the next five years) and digital media and entertainment (low double digits). Our GMV outlook assumes high-single-digit annual growth from Alibaba’s China retail active buyer base the next five years, implying 950 million-plus active buyers by the end of fiscal 2024, and midteens annual average growth in average GMV per buyer over the same time frame.
We believe digital commerce and cloud competition will force Alibaba to continue investing in technology infrastructure, logistics innovations, user acquisition, and personnel. As a result, we expect some margin contraction over the medium term, with consolidated adjusted EBITDA margins remaining in the low 30s the next few years (versus 32.4% in fiscal 2019, down from 47% in fiscal 2017 and 42% in fiscal 2018), due to technology, logistics, product development, online/offline and local services, and marketing investments, as well as the impact of recently acquired businesses. However, we expect margin trends to inflect over the medium term as investments wind down and Alibaba’s more nascent businesses scale, bringing our fiscal 2029 adjusted EBITDA estimates back to the high 30s.
