Alibaba (NYSE:BABA) is a $574 billion market cap Chinese e-commerce company, and the largest one in China. But recently it is facing more competition and other headwinds in China. Nevertheless, Alibaba still produces large profits and free cash flow. As a result, BABA stock is still worth over 43% of today’s price, as I argued in my last article on May 26.
The stock has been on a roller coaster since it peaked on Oct. 27, 2020, at $317.14. After dropping to $222 on Dec. 22, BABA stock started to recover up to $270.83 on Feb. 27.
But since then it has been falling to a low of $199.85 on July 8. Since then it has recovered to $208.18 as of July 19. When I last wrote about the stock on May 26 it was at a similar level of $211.78.
Upcoming Earnings and Valuation
Alibaba will release its Q2 earnings on Aug. 3, which analysts think will show 49.5% higher year-over-year revenue at $32.54 billion. In addition, analysts expect to see earnings per ADS (American Depository Share) of $2.24. But this will be lower than the $2.46 earnings per ADS in last June’s quarter.
Nevertheless, Alibaba should be able to show that it is cash-flow positive and free cash flow (FCF) positive during the quarter. I believe that will help the stock to recover as well.
For example, last year, the company produced $5.176 billion in FCF on revenues of $21.762 for the quarter ending June 2020. That means its FCF margin was 23.78%. We can use that to project out its FCF going forward and later its true value.
For example, analysts now forecast that revenue for the year ending March 2022 will be $143.26 billion (essentially 2021). Later for the year ending Mar. 2023 (essentially 2022) revenue is forecast to hit $173.26 billion (i.e., 20.9% growth in 2022). This is useful for our estimates of the company’s FCF.
Using the 23.78% FCF margin metric, we can estimate that 2021 will have $34.1 billion in FCF and $41.2 billion in 2022. That is a large amount of FCF.
What BABA Stock Is Worth
As of July 19, BABA stock has a market cap of $574 billion. If we divide the 2022 FCF estimate by Alibaba’s market cap we can see that the FCF yield is 7.178% (i.e., $41.2 billion / $574 billion). This FCF yield is simply too high. It is indicative of a company that has real problems.
For example, Amazon (NASDAQ:AMZN) produced $21.786 billion in free cash flow in the trailing 12 months (TTM) to March. This can be seen from data at the TTM financials site on Seeking Alpha and subtracting $45.427 billion in capex from TTM cash flow from operations of $67.213 billion. This implies that its FCF yield is 1.21% (i.e., $21.786 billion / $1.79 trillion).
Granted Amazon is 3 times the size of Alibaba, but the difference between Alibaba’s 7.2% FCF yield and Amazon’s 1.2% FCF yield seems excessive.
For example, valuing Alibaba stock with a 5% FCF yield puts its value at $824 billion (i.e., $41.2 billion / 5%). This result is 43.6% higher than today’s $574 billion market value. It leads to a target price of $298.84, or almost $300 per share.
If Alibaba makes the same FCF margin as last year, it should produce a 44% higher price. That also assumes that the market will give BABA stock a lower FCF yield. My estimate is that the market will value the stock with a 5% FCF yield.
On the date of publication, Mark R. Hake did not hold a position in any security mentioned in the article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Mark Hake writes about personal finance on mrhake.medium.com and runs the Total Yield Value Guide which you can review here.
