Alibaba’s (BABA) Regulatory Woes Take A Troubling Twist With Cloud Business Under The Spotlight
3:52 pm Wednesday, December 22nd, 2021
The hits just keep on coming for Alibaba (NYSE:BABA), the beleaguered e-commerce giant that continues to find itself under the microscope of Chinese regulators. Already facing fierce anti-competitive scrutiny that has stymied its core online retail businesses, BABA’s fast-growing cloud segment is now taking heat from the PRC government for not promptly disclosing a cybersecurity vulnerability.
More specifically, Reuters reported that the Chinese Ministry of Industry and Information Technology (MIIT) received a report from a third party source regarding risks associated with Apache Log4j2, rather than from BABA. This prompted the regulator to suspend its information-sharing partnership with BABA.
With BABA shares already down nearly 50% on the year, this development couldn’t come at a worse time. Sentiment among investors and analysts alike has greatly soured (Goldman Sachs dropped BABA from its Conviction List last month) as BABA’s dominance in China erodes. As competition in the e-commerce space intensifies, particularly from JD.com (JD) and Pinduoduo (PDD), a key saving grace has been the performance of BABA’s cloud segment.
Last quarter, cloud revenue grew by 33% to RMB20.0 bln, representing about 10% of total revenue. With the e-commerce playing field leveling out, the hope was that BABA’s cloud segment would buffer the impact from the decelerating online retail business. Those hopes, though, are darkening a bit today as concerns mount that the PRC government’s actions will become a major impediment to growth.
Making matters worse, BABA has also been stepping on the accelerator in terms of spending in order to fend of competition. For instance, the company has poured capital into Taobao Deals and Community Marketplaces in a bid to attract new users. Combined with the deceleration in top-line growth, these investments caused BABA to miss earnings expectations in two of the past three quarters. Given that the ramp-up in spending is likely to continue in the near-term, the risk of additional EPS misses in the coming quarters is on the rise with BABA’s cloud business now in the crosshairs.
On the brighter side, one factor that BABA does have in its corner is valuation. In the wake of this nasty sell-off, the stock is now trading with a 1-year forward P/E of 12.5x. In comparison, main rival JD has a 1-year forward P/E of about 36x.
The relatively cheap valuation obviously doesn’t solve the escalating regulatory issues that ail the company, but it does suggest that the downside risks are significantly priced in. For the stock to reverse course, however, a change in the fundamental narrative is needed to swing sentiment into a more positive light.
