Alibaba (NYSE:BABA) stock has held up reasonably well so far in 2020. To some investors, that might be a cold comfort. After all, Alibaba stock is down just 11.6% so far this year. But many other stocks have fallen further.
From one perspective, those stocks that suffered larger declines might seem “cheaper.” Finding upside in BABA from here would appear more difficult. With the stock up 20% from March lows, some investors understandably believe “the easy money has been made”.
However, that’s the wrong lens to evaluate the current market environment. To be sure, there are some stocks whose sell-offs have gone too far. For example, I still believe cannabis stocks have a massive long-term opportunity, and I continue to recommend Canopy Growth (NYSE:CGC), that industry’s leader.
But many of the stocks that are “cheaper” amid year-to-date declines in U.S. stocks are cheaper for a reason. Energy stocks like Exxon Mobil (NYSE:XOM) are dealing with $15 crude. Carnival Corporation (NYSE:CCL) is facing years of revenue pressure. Smaller retailers struggled during the bull market — and continue to do so.
Investing for the long-term requires owning great companies. Investors are sticking with BABA stock because they believe it’s one of those great companies. I agree — and news last week is another piece of evidence why.
Alibaba Invests In Its Cloud Business
Many analysts compare Alibaba to Amazon (NASDAQ:AMZN), though that comparison isn’t entirely accurate. But there is one similarity between the two e-commerce giants: a thriving cloud computing segment.
Indeed, the cloud is driving some of the spectacular recent gains in AMZN stock. A massive shift to working from home is driving cloud usage and adoption.
That cloud business is enormously valuable for Amazon. Some estimates peg the valuation of its Amazon Web Services segment at over half a trillion dollars.
Alibaba is earlier in its cloud development. And its business, unlike AWS, remains unprofitable. But that business is growing at a spectacular clip, with revenue up 62% in the company’s fiscal third quarter.
That growth rate may well accelerate over the rest of calendar 2020. And, wisely, Alibaba is ramping its investments behind that business. The company plans to invest $28 billion into that cloud business over the next three years.
That’s a smart move. After all, Alibaba already owns nearly half of the market in China. With that level of spending, it can look to extend its leadership elsewhere in Asia.
Why The Investments Make Sense
Again, Alibaba and Amazon aren’t perfect comparables. But the parallels between the cloud businesses are obvious.
Amazon got off to an early start with AWS — and hasn’t given up its lead. Even with Microsoft (NASDAQ:MSFT) charging hard with Azure, and the likes of IBM (NYSE:IBM) and Oracle (NYSE:ORCL) playing catchup, Amazon has maintained its dominant market share.
Cloud, like many tech industries, is a business with a significant “first-mover advantage.” And the U.S. experience suggests that cloud will be a “winner-take-most” market.
Alibaba is the early winner. And it’s using its fortress-like balance sheet and impressive free cash flow to ensure it stays that way.
That’s a smart move for the cloud business. But it also highlights the broader appeal of the Alibaba business. Even with co-founder Jack Ma retired from his chairman spot, Alibaba management is taking the long view.
That long view worked for Amazon. It’s going to work for Alibaba as well.
What The Cloud Can Do for Alibaba Stock
The cloud business alone suggests meaningful upside for Alibaba stock. Again, Amazon Web Services is by many accounts worth over $500 billion. Alibaba stock right now has a market capitalization of $560 billion.
It’s too aggressive to argue that Alibaba’s cloud business is equally valuable to that of Amazon. But Alibaba’s cloud operations have significant value. And if they keep growing, at some point they alone will support a significant portion of the current price on BABA.
And it’s worth reiterating: Alibaba’s cloud business is unprofitable at the moment. It’s not contributing to overall earnings. Yet, based on those earnings, Alibaba stock looks rather cheap. Shares trade at just 29x this fiscal year’s analyst estimate for earnings per share. Deduct the cash on the balance sheet and the multiple is even lower.
The e-commerce business alone, which remains well ahead of rivals JD.com (NASDAQ:JD) and Pinduoduo (NASDAQ:PDD), reasonably could merit that valuation. Perhaps investors now aren’t getting Alibaba’s cloud business for free — but the implied valuation still seems relatively small.
Investors eventually figured out that Amazon stock had a similar bull case — and AMZN has been one of the best stocks of the past decade. Those investors eventually will figure out the value of Alibaba’s cloud business — and I expect that will make BABA one of the best stocks of the next decade.
Matthew McCall left Wall Street to actually help investors — by getting them into the world’s biggest, most revolutionary trends BEFORE anyone else. The power of being “first” gave Matt’s readers the chance to bank +2,438% in Stamps.com (STMP), +1,523% in Ulta Beauty (ULTA) and +1,044% in Tesla (TSLA), just to name a few. Click here to see what Matt has up his sleeve now. Matt does not directly own the aforementioned securities.
