In my previous article (link), I showed that Alibaba (BABA, Financial)’s China’s retail segment’s revenue growth has three components – active user growth, per user spending growth and change in monetization rate. The ideal model is more active users, more per capita spending and higher monetization rate. The revenue growth rate is the product of these three factors.
Then the data shows that most of the revenue growth comes from active buyers growth. We are all subject to the recency bias, so it’s very easy to extrapolate the recent past into the future. The question is can the growth sustain and if so, for how long? In investing it’s very easy to form an intuitive answer, because this is how the brain works. And my intuitive answer is no, the explosive growth is not sustainable. But we need take the numeracy step, which means gathering data to back up the statement.
Let's revisit Alibaba's active buyers growth in the past nine quarters.
Very often things work like this – you have a product that has the addressable market of x, and you start off with y% of the addressable market and you get growth from both the expansion of the addressable market, as well as your penetration rate.
This has been a very useful mental model for me to use. In Alibaba’s case, the addressable market, theoretically, is China’s population. Then what matters is the percentage of the population who have internet access, the percentage of internet users who shop online and how many of those online shoppers Alibaba converts to active buyers. The following table tells the story:
As we can see, Alibaba was riding three massive waves during this period of time – China’s internet penetration rate, percentage of internet users who shop online, and Alibaba’s penetration rates have all surged, especially Alibaba’s penetration rate.
Going forward, we know that Alibaba’s penetration rate is unlikely to increase further, because it’s already at 97%. Therefore, growth will have to come from the other two variables. If we make the assumption that China’s population grows at roughly 0.8% a year, and both internet penetration and percentage of internet online shopper continue to grow (I’m using a more conservative growth number as always), this is how the active buyers growth may look in the next five to six years.
One thing to note is that the projections are rough estimates and will be wrong. I don't have a crystal ball. But this does give me some idea of how things might turn out approximately. You can see that active buyers growth can taper off to below 15% in two years. If we pencil in a flat monetization rate and a 5% to 6% per capita consumption increase, we will get a 15% to 20% revenue growth rate for Alibaba in the next few years. Still very good, but much slower than the 48% and 37% Alibaba registered in fiscal 2014 and 2015.
With the China retail segment’s growth peaking soon, Alibaba will have to find high growth in other areas that can move the needle. The China Wholesale segment and international commerce combined makes up less than 15% of Alibaba’s revenue and has been growing slower than the China Retail Segment. This means Alibaba will need to find ways to grow its cloud computing and other revenues. I will be paying close attention to the quality of revenue growth and whether the revenue growth can be translated into owner’s earnings growth going forward.
