Alibaba: No Escape From China's Political Quagmire

Mounting political and regulatory risks still threaten to derail Chinese e-commerce giant

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Sep 22, 2021
Summary
  • Once the darling of the Chinese business world, Alibaba has run afoul of Xi Jinping's government.
  • Alibaba has faced numerous punitive actions to date, including a $2.75 billion fine in April for antitrust violations.
  • China's increasingly aggressive and punitive corporate governance policies have created new risks for international investors.
  • Despite the steep decline of its share price since November 2020, Alibaba still looks too risky to buy.
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When Alibaba Group Holding Ltd. (BABA, Financial) made its debut on the New York Stock Exchange in September 2014, it helped pave the way for a host of Chinese companies eager to access international capital markets.

Not too long ago, Alibaba was riding high on the proverbial hog, enjoying its coveted position in the vanguard of a veritable renaissance for Chinese public companies. Yet now it appears the tide has turned against the e-commerce company.

From "Open Sesame" to open season on Ma

Alibaba’s current plight is largely a product of its boss, Jack Ma, who ran afoul of Chinese President Xi Jinping last fall, as Tyler Hayward of the Center for Strategic and International Studies explained on May 12:

“Taking the stage at the Bund Summit in Shanghai on October 24, 2020, Jack Ma launched into a series of attacks on China’s government regulators and traditional financial institutions...This criticism was met with harsh reaction by government regulators in Beijing. In what amounted to a private dressing down, the China Securities Regulatory Commission, and three other regulatory bodies, summoned Ma and two other members of Alibaba’s leadership, Eric Jing and Hu Xiaoming, to discuss regulatory oversight. Following this, various government regulators announced a number of new fines and regulations on Alibaba, including the suspension of Ant Financial Group’s (Ant Group’s) IPO on the Shanghai and Hong Kong Stock Exchanges, a record $2.75 billion fine for antitrust violations, and ultimately a forced restructuring of Ant Group into a financial holding company to be overseen by China’s central bank. Ma himself has also faced severe consequences. Aside from getting summoned by various government regulators, Ma neither appeared in public nor made any public statements from November 2020 until January 2021.”

Ma apparently believed his high-profile and vast wealth could insulate him from the political risk inherent in any public criticism of the Chinese government, even on Chinese soil. He was wrong.

While Alibaba is hardly alone among Chinese stocks in feeling the pinch of political pressure of late, its high profile and massive size have kept it in focus––as has the strange disappearance of founder and CEO Jack Ma last year. Indeed, Alibaba’s troubles have become somewhat emblematic of the wider shift in sentiment toward publicly traded Chinese companies, both at home in China and abroad in the United States.

The Chinese government has made an unmistakable statement with its actions to knock Ma and his business empire down a few pegs. I find it hard to interpret as anything other than a public example to all Chinese companies and their leaders that it is the Chinese Communist Party, not the business community, that calls the shots.

One thousand and one plights

Ma’s extended absence from the public eye left Alibaba exposed and rudderless, and the situation was soon made worse by the Chinese government’s subsequent actions. In December, regulators brought the $35 billion initial public offering of Alibaba spinoff The Ant Group to a jarring halt. And that was just the start.

Alibaba’s political problems have continued to weigh on it in 2021. In April, China’s State Administration for Market Regulation handed down a $2.75 billion fine for antitrust violations, a punishment Alibaba accepted meekly, despite its causing a $1.2 billion loss in the first quarter of 2021. This month saw Alibaba embroiled in a fresh scandal, the result of public revelations about the company’s spotty record of dealing with workplace harassment.

Despite the recent proliferation of political and regulatory pressures facing Alibaba, market expectations have remained high. Thus, the e-commerce giant has still had to grapple with the same economic realities of a being a market leader in a fast-growing and increasingly competitive industry it always has. Yet, as the Wall Street Journal observed in May, growth ambitions will not come cheap:

“The company needs to invest more to fend off the competition. With the latest regulatory scrutiny, it might also need to spend more to keep merchants happy. The company’s [first-quarter] adjusted earnings before interest, taxes, depreciation and amortization, which excludes the one-off fine, grew only 18% year-over-year—implying shrinking margins. Alibaba has been putting money into food delivery and grocery e-commerce. The latter in particular faces strong competition from others as all Chinese tech giants see this as a chance to get their hands on relatively untapped rural areas. The business is unlikely to be profitable in the near future.”

Given Alibaba's vulnerability to further government action, the threat of serious competition could further weigh further on its already-compressed margins. Alibaba's challenge is thus twofold. First, it must walk a political tightrope that has rarely been so precarious. Then, even if it succeeds on that front, Alibaba must also execute in order to deliver the rapid growth rate that even its much deflated share price still implies.

My take

Any investment that can be wiped out by a sudden change in the political winds should be treated with considerable skepticism. The risk is especially magnified in the case of China-based companies, since they offer little in the way of legal protection or recourse for international shareholders.

While some investors may see Alibaba’s recent share price reversal as an opportunity to snag a bargain, the ongoing political uncertainty has led me to the conclusion that the risk of catching a falling knife is still far too great, even at the stock’s currently depressed price.

Disclosures

I/we have no positions in any stocks mentioned, and have no plans to buy any new positions in the stocks mentioned within the next 72 hours. Click for the complete disclosure