Alibaba (NYSE:BABA) will report its second-quarter results next week, but you may want to invest in BABA stock before those numbers move the stock higher.
The eCommerce giant is likely to witness healthy growth in its core commercial segment, further strengthening its impressive cash till.
Consequently, BABA stock is poised to deliver substantial returns after experiencing a roller-coaster ride this year.
The tech giant got caught in a massive crackdown by the Chinese government. Beijing’s plans to reinforce its authority by increasing regulatory oversight on Chinese enterprises weighed down BABA stock.
On top of that, several Chinese real-estate firms are on the brink of bankruptcy, worsening the property sector’s liquidity crisis.
However, BABA stock could sidestep this selling pressure if it is able to deliver a solid quarterly performance. Its eCommerce business has been soaring, but its high-margin businesses haven’t been far-off either and are likely to perform exceedingly well in this quarter.
Soaring eCommerce Business
Alibaba’s eCommerce business contributes over 85% of total sales and continues to be its biggest catalyst after several years in the game. Particularly its logistics and international eCommerce businesses have delivered over 50% year-over-year growth rates.
The challenges presented by the pandemic have hardly slowed down by Alibaba, as it looks to expand its horizons even more as we advance.
Unfortunately, its free cash flow generation took a massive hit as a result of China’s anti-monopoly fine. The colossal $2.8 billion fine lowered the company’s free cash flows by $1.4 billion.
After accounting for the fine, the company’s free cash flow margin tanked to 10%. In the prior-year period, its FCF margin was at a robust 24%.
Alibaba’s ability to generate healthy free cash flows depends on its ability to grow its top-line at the solid pace it has over the next few years. Current estimates point to a spectacular 17% annual growth through 2026.
Hence, with this run rate, it could generate revenues in excess of $260 billion.
Moreover, if Alibaba’s FCF margin returns to roughly 20%, its free cash flows could nearly double to over $50 billion by 2026. You also have to factor in the performance of its high-margin businesses such as cloud computing and digital media.
Over the next few years, these segments are poised to contribute heftily to their top and bottom line, further boosting free cash flows.
The Potential of Alibaba’s Cloud Business
Alibaba’s cloud business generates annualized revenues of close to $10 billion, making it one of the top players in its niche. However, it contributes just 8% to its total revenues, and margins aren’t exciting either.
The company recently released a new server chip called the Yitian 710 to make its cloud services more appealing. The Yitian 710 utilizes the ARM architecture and is capable of offering tremendous speeds. Its specs are mighty impressive and have the potential to be the next industry standard.
Developers are always searching for better cloud services which offer improved load times, up times, and other related elements. Hence, if the numbers live up to expectations, Alibaba’s cloud business could benefit immensely.
Cloud revenues in fiscal 2021 grew at 50%, while its year-over-year growth slowed down by 21% in its latest quarter. However, the Yitian 710 chip’s introduction could help Alibaba return to winning ways in its cloud segment. Its cloud revenue growth could easily return to 50% if its chipsets and servers gain more traction.
Bottom Line on BABA Stock
BABA stock has cratered due to Beijing’s crackdown. However, it has generated an encouraging 13% return this month, and a strong earnings performance could help continue the rally.
Alibaba is poised for a magnificent showing with its core commercial segment, which never ceases to amaze. Moreover, the positive developments in its cloud segments can also help bump revenues. Therefore, BABA stock is a strong buy over the long term.
On the date of publication, Muslim Farooque did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Muslim Farooque is a keen investor and an optimist at heart. A life-long gamer and tech enthusiast, he has a particular affinity for analyzing technology stocks. Muslim holds a bachelor’s of science degree in applied accounting from Oxford Brookes University.