While analysts debate whether this week’s renewed worries over the U.S.-China trade conflict may cause a stock-market selloff in the second half of 2019, I’d like to discuss the short and long-term outlook of Alibaba (NYSE:BABA) stock.
In 2019, Alibaba stock is up over 27%. On May 15, the e-commerce giant is expected to report it fiscals fourth-quarter earnings. Although BABA stock and other Chinese names may undergo volatility and further profit-taking in coming weeks, long-term investors should regard any upcoming dip in BABA stock as a good buying opportunity.
What to Expect From BABA ‘s Earnings
As BABA gets ready to release its quarterly results soon, investors who are seeking capital appreciation should keep in mind that the company’s share of the Chinese e-commerce space is over 55%. But BABA is rapidly expanding into many other lucrative industries aside from consumer products.
Many analysts expect Alibaba’s revenue to continue growing by double-digit-percentage rates.Multiple analysts say that BABA’s top line can increase at an average annual rate of 20%, through both organic growth and acquisitions. That would be an impressive growth rate for a company with a market cap of $464 billion.
When BABA releases its earnings, owners of BABA stock should pay attention to four main areas:
- Core commerce (BABA’s largest segment which grew at a 40% year-over-year growth in Q4);
- Cloud computing (which soared 84% YOY in Q4);
- Digital media and entertainment (which increased 20% YOY); and
- Innovation initiatives (which jumperd 73% YOY ).
One Q3 highlight was that BABA’s mobile monthly active users (MAUs) on its e-commerce platforms reached 699 million. The owners of BABA stock will be interested in the corresponding number in Q4.
Another metric to pay attention to is Alibaba’s operating margin, which stood at almost 18% as of the end of last calendar year. Over the years, BABA’s high operating margin has contributed to its profitability, which has been even higher than that of Amazon (NASDAQ:AMZN).
BABA’s Q3 results, issued on Jan 30, showed that BABA’s gross profit margin was over 45%. However, that was the company’s lowest gross profit margin in nearly three years.
BABA’s core e-commerce business contributes 88% of its revenue. But Alibaba has also been branching out into other business ventures. This expansion has been made possibly partly by its steady free cash flow (FCF), which measures a company’s ability to produce cash.
Investors care a lot about FCF, as it can be used in a discretionary manner. For example, BABA has used its FCF to invest in growth opportunities and strengthen its balance sheet further. On May 15, Wall Street is likely to analyze the company’s cash position closely.
Finally, forward-looking investors may want to pay attention to BABA’s international growth numbers, too. Currently, more than 90% of the e-commerce giant sales are made in China. But BABA has investments in start-ups in South Asia and Southeast Asia, too. Higher incomes and rising internet penetration rates are likely to strengthen the regions’ e-commerce markets. Among the start-ups in those regions in which BABA has stakes are Paytm, an Indian digital-payments provider, and Lazada, a Singapore-based e-commerce company that is growing in overseas markets.
BABA is also looking to partner with European companies. Many European companies are still discovering new ways to enter the Chinese market, and BABA may enable them to connect with Chinese customers faster. BABA’s mobile payment network, Alipay, is seeking to expand in Europe. International growth will not only help increase the company’s bottom line, but it will also enable BABA to diversify away from China, lowering the macro risk of BABA stock.
Short-Term Headwinds for BABA Stock
Since May 6, the markets have been negatively impacted by the ramping rhetoric of the U.S.-China trade wars. If the two sides cannot reach a deal in the coming days, then BABA stock, like many other Chinese stocks, is likely to suffer further.
As a result of the recent impressive run-up of Alibaba stock since early January, BABA’s short-term technical indicators have already become overextended. Therefore, BABA stock is likely to be impacted by profit-taking especially heading into its earnings report.
The options markets are pricing in an approximate post-earnings move of 10%-12% in either direction by BABA stock. If the earnings report is favorable, my next price target for Alibaba stock in the coming weeks would be between $190 and $195.
On the other hand, if BABA’s earnings guidance is at all disappointing, BABA stock could quickly drop to the low $160’s.
In the wake of BABA’s earnings, I do not expect BABA stock to regain its recent high of $195.72, which was last seen on May 3. Instead, BABA stock is likely to trade in a range, possibly between $160 and $185, for several weeks,
In addition to looking at technical analysis charts and options’ prices, I keep an eye on stocks’ Price/Earnings to Growth (PEG) ratio. A PEG ratio of one means the market’s perceived value of the stock is equal to its anticipated future earnings growth. For example, if a stock had a P/E ratio of 25, and the company’s projected earnings growth was 25%, then the PEG ratio would be one. With the PEG number, investors can compare and contrast the relative value of a stock against other stocks.
I also compare the change in PEG with the change in a stock’s price within a given time-frame to gauge investor sentiment regarding a stock’s potential price increase. Given BABA’s current level of earnings growth, Alibaba’s PEG of 1.23 is currently high from my perspective. In other words, I regard BABA’s stock price of about $180 as somewhat over-stretched, given its PEG of 1.23. However, please remember that the PEG ratio is just one tool in investors’ arsenal.
The volatility of Alibaba stock is high, giving it a broad trading range, so short-term traders should proceed with caution.
The Bottom Line on BABA Stock
Alibaba stock offers U.S. investors the chance to invest in the growing Chinese consumer and e-commerce markets. As the company’s second decade ends, it is increasingly focusing on becoming a social hub. Alibaba’s growth in e-commerce, cloud computing, and its other investments throughout China and globally make it a disruptor and a sound long-term investment.
Therefore long-term investors should view any decline in BABA stock as a good opportunity.
However, traders with a short-term horizon should remember that there might be some profit-taking in Alibaba stock ahead of BABA’s earnings.
If you already own BABA stock, you might want to hold onto your shares. That said, if you are worried about profit-taking in the short-term , then within the parameters of your portfolio allocation and risk/return profile, to protect your profits to date. you may consider placing a stop-loss at about 3%-5% below the current price point.
As of this writing, Tezcan Gecgil did not hold a position in any of the aforementioned securities.