Among the most affected companies of the U.S.-China trade war is Alibaba Group Holding Ltd. (BABA, Financial). The stock has fallen below $150 in recent weeks.
While the company posted decent quarterly results, the economic environment as a whole has adversely affected investors' positive sentiment for the Chinese e-commerce giant. As a result, Alibaba looks like an interesting pick at current levels.
Excellent growth across business segments
In the most recent quarter, Alibaba recorded excellent revenue growth of more than 60%, backed by increasing sales in the e-commerce, cloud computing and digital media and entertainment businesses. The active members of the marketplace grew to about 576 million during the quarter, and the generation of free cash flow was also solid.
It is evident from these results that the stock price has not been affected by the company's financial standing.
The Chinese yuan and the trade war have pulled Alibaba down
There has been a high level of instability in regard to the value of the Chinese yuan versus the U.S. dollar, which is a reflection of the lack of patience among investors with respect to the ongoing trade war between the U.S. and China. As the two governments have yet to settle the conflict, companies and investors are suffering the consequences.Â
The declining value of the yuan is also impacting Alibaba’s valuation more than other companies, partially because of its capital retention policy. Management has not distributed a dividend and has lots of cash to use for mergers and acquisitions, so the decreasing value of the currency is reducing the intrinsic value of Alibaba as an entity.
Healthy margins and reasonable valuation multiples
Alibaba has enjoyed healthy growth over the years and has an operating margin of 21.55% with a return on equity of 16.78%. The company’s revenue and earnings before interest, taxes, depreciation and amortization growth rate over the last three years has been above 40%, which is phenomenal and justifies the high valuation. The company has a 3.5-star business predictability rank, implying a return of over 9% over a long-term horizon.
Admittedly, Alibaba has always been valued at high multiples versus the industry, but the recent dip has brought them down a bit. While an enterprise value-to-revenue ratio of 8.9 might appear to be on the higher side, an EV-to-EBITDA ratio of 23.73 and a price-earnings ratio of 43.47 certainly look reasonable for a stock like Alibaba.
If we analyze Alibaba's three-year price chart along with its revenue and earnings per share growth, it is evident the price increase up until the beginning of 2018 was backed by strong sales and solid profitability. While the company's outlook continues to remain solid, there might be a slight drop in earnings as a result of the depreciation of the Chinese yuan and the trade war. However, the recent price drop is certainly an opportunity for brave investors to enter the stock.
Conclusion
While the stock could fall further, especially with the departure of CEO Jack Ma next year, Alibaba's fundamentals are solid. The company will also benefit from the stabilization of the yuan and the U.S. and China reaching a solution to their trade dispute.Â
Disclosure: No positions.Â
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