Shares of Alibaba (NYSE:BABA) jumped in mid-May after the China e-commerce and technology giant reported fourth-quarter numbers that blew past estimates.
Revenues yet again increased more than 50% in the quarter and came in nearly 5% ahead of expectations. Meanwhile, margins stabilized much more than anticipated, and profits came in more than 30% ahead of expectations. The fiscal 2020 guide was strong, too, and broadly implied that growth isn’t going to slow by much.
Despite the strong numbers, BABA stock price only rose a few percentage points in response. Indeed, shares are still 10% off their earlier highs this month.
Why the muted reaction in the BABA stock price despite the strong results? Macroeconomic headwinds. Trade tensions between the U.S. and China are rising. A new round of tariffs has been issued by both countries recently.
If tensions stay elevated and these tariffs stick around, that will have an adverse impact on China’s economic activity. In turn, that will weigh on Alibaba’s growth trajectory, dampen the numbers, and ultimately pull shares lower.
But these fears are overblown. In the big picture, a trade deal will likely be struck soon since both the U.S. and China desperately want to reach an agreement. Once such a deal finalizes, macro-related concerns will ease. When they do, investors will re-focus on the core growth narrative here. Fourth-quarter numbers confirm that this narrative remains as vigorous as ever.
Bottom line, strong fourth-quarter numbers imply that Alibaba stock has fundamentally supported runway to prices well above $200 over the next twelve months. The only thing holding BABA back from hitting those levels is a trade war. But again, that headwind likely won’t stick around. When it goes away, shares will soar.
Alibaba’s Numbers Create Runway to $200-plus Prices
Alibaba’s fourth-quarter numbers were really good. Along with revenue growth, core-commerce business also jumped over 50%. Broken down, BABA enjoyed approximately a 45% gain in the core China business, a 25% gain in the international-commerce business, and a 140%-plus gain in the offline retail business. Meanwhile, the cloud-computing business saw revenues rise 76% in the quarter. Other businesses continue to expand, such as video hosting service Youku, which saw its sub base grow 50% in Q4.
Broadly, Alibaba is firing on all cylinders. They continue to dominate core China e-retail through aggressively penetrating lower-tier Chinese cities. Simultaneously, they are expanding their e-retail operations to other, less penetrated digital economies across Asia, and building out a complementary offline retail business in China to grow wallet share. Both of those growth initiatives are still in their early innings.
Plus, the company operates Asia’s largest public-cloud service. This service is growing at a steady 70%-plus rate. It’s also in the early stages of building out potentially massive studio, streaming and digital ad businesses.
In other words, Alibaba is the heartbeat of Asia’s digital economy. That economy is rapidly expanding, thanks to widespread urbanization and digitization trends. Concurrently, Alibaba is growing share in that expanding market by extending reach and creating new verticals. All things considered, Alibaba projects as a 20%-plus revenue grower for the next several years.
Assuming margins start to gradually improve as the cloud, media, and offline retail businesses scale, then Alibaba could easily do about $20 in earnings per share by fiscal 2026. Based on a growth average 20-forward multiple, that implies a reasonable fiscal 2025 price target for BABA stock of $400. Discounted back by 10% per year, that equates to a fiscal 2020 price target of nearly $250.
Trade War Risks Will Pass
Long term growth fundamentals imply that BABA shares should trade somewhere near $250 in twelve months. The only thing that will stop Alibaba stock from getting there is the trade war.
If the trade war sticks around, Chinese economic activity will slow. If that happens, Alibaba’s growth trajectory will flatten out. And if growth flattens out, Alibaba stock will have trouble making a big move higher, since shares already trade at 27-times forward earnings.
But the trade war won’t stick around.
President Donald Trump is married to the stock market, and because he has consistently tied his success to the success of stocks, he essentially has to keep the market afloat in order to improve his re-election odds in 2020. That’s why the U.S. included a grace period for goods-in-transit for this round of tariffs. Trump and company want to get a deal done. So does China, because their entire economic improvement in 2019 has been predicated on stable trade conditions.
Thus, I think that a deal will get done soon. If not a deal, then trade tensions will inevitably cool over the next several weeks and months. As they do, macro-headwinds holding back the BABA stock price will ease. When those fade, this stock has the necessary firepower to pull off a huge rally.
Bottom Line on BABA Stock
Alibaba’s strong fourth quarter numbers illustrate that this company is firing on all cylinders. This momentum will persist, so long as the current flare-up in the trade war cools off, which it will. Once those tensions ease, BABA stock will pull off a big rally toward and potentially above $200.
As of this writing, Luke Lango was long BABA.
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