Alibaba (NYSE: BABA) has invested heavily in South Asia and Southeast Asia to diversify its revenue base. It has made big bets on the Indian market’s e-commerce segment and on other services in the country, hoping that these businesses will eventually boost Alibaba stock.
One of BABA’s biggest bets in India is on Paytm and its e-commerce subsidiary, Paytm Mall. A recent report by Forrester Inc. mentioned that Alibaba has refused to engage in any further funding rounds for Paytm Mall. Instead, Alibaba plans to invest more in its cloud segment and its delivery platform which should boost Alibaba stock more than Paytm in the short-term.
Alibaba owns a 46% stake in Paytm Mall. In the last two years, Paytm Mall has raised $645 million from Alibaba and Softbank. Paytm Mall has relied on heavy discounts to attract customers without investing in a logistics network. Paytm Mall’s strategy has backfired and has caused massive losses without decent sales growth. The big losses reported by Paytm are positive for the Indian businesses of Amazon (NASDAQ: AMZN) and Walmart (NYSE: WMT).
Why the Change of Strategy?
Alibaba has not built its own platform in India. Instead, it has relied on smaller startups in which it has invested to increase the size of their operations. Alibaba has invested a great of money in these companies, but it has largely allowed the start-ups to manage themselves. This strategy has worked with several of the start-ups, including Zomato, Big Basket and Paytm digital wallet. In September 2018, Warren Buffett invested $400 million in Paytm at a valuation of $10 billion. Paytm is the market share leader among the digital wallets in India.
Two years ago, Paytm wanted to diversify into e-commerce by leveraging the strength of its digital wallet platform. It started a new subsidiary called Paytm Mall in which Alibaba and Softbank were the largest investors. This company relied on massive discounts to encourage customers to shift their purchases to Paytm Mall. However, the venture generated high losses.
Alibaba has refused to provide more funding to Paytm Mall because the venture did not meet its gross merchandise value and profitability goals. That shows how difficult it is to build a new e-commerce platform from scratch in India. Despite massive funds, Paytm Mall was not able to retain many of its customers when it cut back on its discounts.
Second Big Loss
This is the second big setback for Alibaba and Softbank in India. Earlier, they invested in Snapdeal.
Fig: Investment rounds in Snapdeal. Over $1 billion was invested by both Alibaba and Softbank. Source: Crunchbase
Snapdeal also followed a capital-light strategy. as it invested very little money in logistics. Due to the website’s poor logistics options, many customers did not remain loyal to it , causing its market share to fall. On the other hand, both Amazon and Flipkart (owned by Walmart) have invested massively to build strong in-house logistics operations. Consequently, their customers’ satisfaction levels have risen meaningfully and they are less dependence on discounts to retain their customers.
Alibaba Stock Gains From Diversification
The valuation of Paytm is expected to reach $18 billion soon.
Alibaba also has a significant stake in Zomato which is a food delivery platform. HSBC Global Research has estimated Zomato’s valuation at $3.6 billion. This platform is losing money but it has been able to rapidly grow its sales. Another successful startup has been Big Basket, an online grocer. That startup is valued at over $1 billion.
Alibaba Needs to Conserve Its Resources
Alibaba is looking to rapidly expand its cloud segment and make it a major profit center for the company. That will require large investments in the next few quarters. In China, Alibaba is also investing in food-delivery service Ele.me, digital media and other local services. Its multiple, large investments is one of the reasons why it has stopped pouring more money into Paytm Mall.
That’s a good strategy for BABA andAlibaba stock because the probability of Paytm Mall succeeding is quite low. It is competing against giants like Amazon and Walmart that have invested much more money in India. By shifting more resources to cloud computing, Alibaba can improve the growth rate and margins of this segment. That should boost Alibaba stock in the short-term.
According to Bloomberg, Alibaba now plans to invest in smaller Indian startups, instead of writing bigger checks. After its two major setbacks in India, Alibaba is trying to diversify its investments there to areas other than e-commerce
The Bottom Line on Alibaba Stock
Alibaba’s potential overseas growth is a big reason for the bullish sentiment towards Alibaba stock. Paytm Mall has not shown signs of growth or profitability, resulting in a major setback for BABA. Alibaba will now be focusing on smaller startups in this region. It can also shift its resources to more important segments like cloud, digital media, and Ele.me. These segments’ margins look poised to rise meaningfully in the short-term.
Due to headwinds created by the trade war, Alibaba’s new strategy of investing more prudently seems logical. Investors should closely watch the impact of this strategy on its margins going forward. The growth of BABA’s margins and EPS may accelerate in the near-term, helping to improve sentiment towards Alibaba stock.
As of this writing, Rohit Chhatwal did not hold a position in any of the aforementioned securities.