Alibaba ($BABA): Momentum, AI, and Challenges
Alibaba is one of the most closely watched stocks globally and a favorite of retail investors (especially on X), with its performance significantly shaped by the landscape in the Chinese technology sector and its strategic investments in AI. With the shares climbing over 60% year-to-date, Alibaba’s stock price has surged, largely fueled by optimism surrounding its cloud computing division and the growing adoption of AI products. Yet, despite this recent momentum, Alibaba’s current valuation remains attractive compared to historical standards and global peers.
Before we go further, I need to take a step back and lay my own cards on the table and inform you that I used to hold Alibaba but ended up selling it in December 2021 at around $120. The stock had been in a 14 month drawdown and I was increasingly coming to the conclusion that Chinese companies were very difficult to risk assess due to:
I found it meaningless to talk about stock investments in a country without private property rights.
Geopolitics.
Poor return on capital.
With that out of the way let’s explore Alibaba’s recent financial performance, strategic business developments, and valuation metrics, and look at where the company stands and its potential trajectory.
Business performance overview
Alibaba delivered a solid financial performance in its latest quarter, surpassing market expectations with revenue growth of approximately 8% year-over-year. Adjusted EBITA rose by 4%, driven mainly by renewed momentum in its flagship Taobao Tmall Group (TTG) and Cloud computing segments.
Core commerce (TTG) performance
Alibaba’s core e-commerce business, comprising platforms like Taobao and Tmall, remains the heart of its revenue generation. Customer management revenue, a critical driver of profitability in TTG, accelerated to 9.4% growth, supported by an improving monetization rate. This growth indicates merchant willingness to increase ad spending, reflecting better efficiency and targeting capabilities of Alibaba’s digital marketing tools. Despite relatively subdued consumption trends in China, the positive trend in monetization rates is likely to sustain revenue growth at approximately 7-8% annually.
Additionally, the adjusted EBITA for TTG stabilized, returning to modest growth (2-4% year-over-year), indicating Alibaba’s effective cost management and disciplined reinvestment strategy.
Cloud and AI developments
Alibaba’s cloud division, Cloud Intelligence, reported impressive growth of 13% year-over-year. More notably, the segment saw triple-digit AI-related revenue growth for the sixth consecutive quarter, highlighting Alibaba’s strength in AI innovation. The demand surge followed the launch of advanced models like DeepSeek and Qwen, signaling robust interest from external customers across various verticals.
To sustain this momentum, Alibaba has unveiled a significant capital expenditure plan totaling approximately RMB 380 billion (~$52 billion) over the next three years, exceeding the total investment from the previous decade. While substantial, this investment remains modest compared to U.S. tech giants like Amazon, Microsoft, and Alphabet, indicating Alibaba’s more conservative yet strategic approach to AI infrastructure spending.
AI Positioning and Competitive Environment
While Alibaba’s AI advancements have received significant attention, the scale of its AI-related revenue remains modest compared to U.S. tech giants. Alibaba’s AI business is currently on an annual run rate nearing the $1 billion mark, substantially lower than Microsoft’s Azure AI, which has surpassed a $13 billion annual run rate.
Pricing War and Competitive Dynamics
The Chinese AI market is fiercely competitive, characterized by an intense pricing war among major players such as Tencent, ByteDance, Baidu, and Alibaba. Price reductions of up to 97% have been mentioned, making AI products extremely affordable in China compared to global standards. For instance, Alibaba’s Qwen Turbo is priced at a fraction of comparable U.S. AI models like OpenAI’s GPT series.
Campaign currently being run by Alibaba Cloud:
However, this aggressive pricing strategy, while beneficial for customer acquisition and market positioning, poses challenges to significant revenue contribution and profitability. Consequently, despite substantial user engagement and high download figures, AI products have yet to translate into major revenue streams or profitability improvements on the scale seen in Western markets.
Financial health and Profitability analysis
Segment Profitability:
Alibaba’s overall profitability continues to improve steadily. Adjusted EBITA margin increased to approximately 20% in recent quarters. Specifically, the TTG segment exhibited strong profitability (EBITA margin close to 45%), outperforming its direct competitors such as JD.com and Pinduoduo.
Cloud Intelligence also displayed healthy EBITA growth (+32.7% YoY), benefiting from the incremental revenue from higher-margin AI-driven products. Margins are likely to remain stable despite higher depreciation costs from substantial planned capital expenditures.
Cash Flow and Balance Sheet:
Alibaba maintains a robust financial position, with a strong cash flow generation profile, albeit under some pressure due to elevated CapEx planned for AI and cloud infrastructure. Free cash flow (FCF) yield, however, remains attractive at approximately 3-7%, reflecting the company’s solid capital management despite ongoing investments.
Net debt has recently increased due to aggressive spending but remains manageable relative to EBITDA, implying minimal financial distress risk.
Valuation Metrics
Alibaba is currently trading at a modest valuation relative to historical averages and global peers, highlighting potential upside from current levels.
• Price/Earnings (P/E): Approximately 13.5x based on what we can expect for 2025, historically low compared to Alibaba’s 5-year average P/E of around 20x.
• EV/EBITDA: Around 7.5x for 2025, reflecting reasonable valuation considering growth prospects and profitability.
• Price-to-Sales (P/S): Currently at roughly 2.5x, indicating undervaluation relative to global competitors.
• Price-to-Book (P/B): At about 2.1x, reinforcing the notion of moderate undervaluation given the company’s solid return profile.
Risks and Uncertainties
Key risks facing Alibaba include:
1. Competitive Pressure: The rapid ascent of platforms like Douyin and Pinduoduo presents significant competition, potentially impacting Alibaba’s market share and monetization rates.
2. Regulatory Landscape: Persistent regulatory scrutiny from Chinese authorities poses ongoing uncertainties, particularly concerning data privacy, cybersecurity, and anti-trust enforcement.
3. AI Revenue Scalability: The current aggressive pricing strategy, while supportive of market share gains, limits revenue growth and could pressure margins in the near term.
4. Macro-economic Sensitivity: Consumer sentiment and spending in China remain volatile, influenced by broader economic conditions and geopolitical tensions.
Conclusion
Despite these challenges, Alibaba’s fundamental positioning remains strong, anchored by its dominant e-commerce business, rapidly scaling cloud computing division, and ambitious yet strategic AI investments. The recent stabilization in TTG profitability, coupled with accelerated monetization rates, enhances earnings potential. Alibaba’s disciplined approach toward AI infrastructure spending positions the company to reap long-term benefits from increased AI adoption without significantly compromising near-term profitability.
The key factors for continued value accretion are reliable cash-flow generation from e-commerce with upside potential driven by AI investments.
I still do not have a position in BABA but keep it on my watchlist. The above is also not intended as investment advice.
With that, thanks for reading I truly appreciate the interest. Below are a few ideas for further readings and inspirations.
