Alibaba Group Holding Ltd (NYSE:BABA) closed trading Mar. 23 at $108.25, up 23% year-to-date and over 35% in the last 52 weeks, but still quite a bit below its all-time high of $120. Whether you are pro-BABA stock or one of the many skeptics, the question one must ask themselves is whether the sum of the parts of Alibaba stock is worth more than the current price of $108 and change.
More bluntly stated — is the intrinsic value of BABA stock appreciably greater than $108? Not just five or $10, but 50% greater or perhaps more because if it’s not, there’s no reason to hold its stock long-term.
We all know the intrinsic value of a stock is impossible to calculate, so the next best solution is to estimate the value of each of Alibaba’s various businesses, including its core e-commerce segment, which accounts for a lion’s share of overall revenue.
Warren Buffett recently said in his letter to shareholders that he would buy lots of Berkshire Hathaway Inc. (NYSE:BRK.A, NYSE:BRK.B) stock if it traded within 120% of its book value per share, which Buffett stated in his 2016 letter to shareholders “… is a significant discount to Berkshire’s intrinsic value, a spread that is appropriate because calculations of intrinsic value be precise.”
So, before getting into a sum of the parts calculation, we need to find out what Alibaba stock’s price-to-book ratio is because that gives us a better indication whether it’s currently trading at a discount to its intrinsic value.
BABA stock’s current P/B ratio is 6.9, which means Buffett, if applying the same 120% rule to Alibaba stock, which he likely wouldn’t do given Alibaba is a growth stock and a much different kettle of fish than Berkshire Hathaway, he would pay no more than $18.32 or about one-sixth its current value.
This sum of the parts calculation better be good because if not, investors are seriously overpaying for Alibaba stock.
To speed this process along I’ve borrowed information from Coho Capital’s 2016 letter to shareholders. Coho Capital is an Oregon-based hedge fund run by Jake Rosser; his fund has a 20.2% return over the past five years, 550 basis points higher than the S&P 500.
He clearly would have a better idea how to value the various parts of BABA’s business than I would, so how about we cut to the chase.
The Sum of Alibaba Stock
E-Commerce = $114 per share
- Three platforms (Alibaba, Taobao, Tmall) grew sales 54% in the most recent quarter; 493 million monthly active users.
- Chinese E-commerce sales $900 billion in 2016 representing 18% of total retail sales compared to 12% in the U.S.
- Alibaba has 80% market share of Chinese e-commerce.
- Online sales in China are expected to grow 20% per year over the next four years.
- The Chinese will spend more online than the rest of the world combined.
You can clearly understand from Rosser’s comments about Alibaba’s e-commerce business that it is more precious than gold and despite its tremendous growth in the past, there’s plenty of it to be had in the future.
He values the e-commerce at $114 per share based on 25 times forward earnings and annual revenue growth of 28% over the next few years. That’s puts us at roughly 110% of its current stock price and more than 745% higher than Alibaba’s book value per share of $15.
Ant Financial and Other Investments = $15 per share
- Alibaba has a 33% stake in the Chinese online payments business.
- Ant Financial runs Alipay which has a 68% share of the mobile payment market in China.
- Ant provides wealth management services through its Ant Fortune app and Yu’e Bao financial services unit as well as online banking to small business in China.
- Ant Financial is expected to go public and Rosser estimates it will be much higher than its $60-billion valuation from April 2016.
Alicloud and Digital Entertainment = ?
- Alicloud has 70% market share in Chinese cloud computing market.
- Alibaba provides cloud business with immediate economies of scale.
- Alicloud has $1 billion annual run rate with 100% growth over the next two years.
- Alibaba’s cloud business could be profitable as early as next year.
- Core Capital saw Amazon.com, Inc. (NASDAQ:AMZN) go through the same growth curve with Amazon Web Services.
Bottom Line on BABA Stock
Rosser estimates the value of Alibaba’s two major businesses at $129 without any dollar amount for its cloud business or its digital entertainment business or its brick-and-mortar retail business for that matter.
They’ve got to have some notional value.
Recently, I wrote about how its cloud business will pay dividends for Alibaba for many years to come. Rosser’s comments certainly echo my sentiments. With Amazon’s AWS business generating $12.2 billion in annual revenue in 2016 and very profitable, BABA stock holders should expect the question mark on Alicloud’s value per share to disappear within the next two years.
If I had to put a guess on it, I’d say Alibaba’s cloud business is easily worth $10 to $15 per share, probably a lot more once 12 to 24 months pass and we have a clearer picture of Alicloud’s contribution to Alibaba’s overall business.
From where I sit, a sum of the parts calculation makes BABA stock a deal at $108 per share; at $80 it’s a steal.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.
