Alibaba's fourth quarter results are available in Yahoo's (YHOO) 10-Q, and they are, to say the least, quite impressive. Just take a look:
Three Months Ended
Income from operations
Net income attributable to Alibaba Group
That's 80% year over year revenue growth and 172% net income growth. Simply put, this company is growing a lot faster than anyone could have imagined, and with that in mind Jack Ma's moves over the past year now make a lot more sense. In the last twelve months, he managed to get Yahoo to sell 18% of the group back to him for $7.1 billion and took Alibaba.com private. Doing the math, Yahoo parted with 18% of Alibaba Group at about 4-5x 2012 sales and probably 16x operating income. Of course, it's not like Jack Ma gave it much of a choice, but that is still a pretty ridiculous deal. Now, one does have to wonder where this IPO will price because Alibaba has the right to buy half of Yahoo's remaining 24% stake at the offering price. But let's take a step back for a second and ask whether or not this IPO is going to happen anytime soon.
As things stand, the word is this IPO is slated for 'sometime' in 2013 or 2014. But if you ask me that's all hogwash. The fact that these numbers are out says a filing is getting awfully close. And looking at the Q4 numbers, what I see is pre-IPO window dressing here for what looks to be a historic IPO. Year over year operating margin improvement of 1300 bps for a transaction commission driven model like this is not 'normal' (wonder if it pulled a Visa-esque (V) pre-IPO move and got commission price increases for discounts down the road), so I am guessing the goal will be to list before the summer is out.
So what is this Chinese titan worth?
Looking at the numbers Alibaba recorded $4.1 billion in revenue and generated $486 million in net profit in fiscal 2012. Adjusting for the recent filing, that means trailing twelve month revenue is $5 billion and net profit is about $900 million. This actually compares nicely to the internet's most recent super-sized IPO, the ubiquitous Facebook (FB), which did $5B in revenue in 2012. The problem here is figuring out the bottom line element as Facebook only netted about $30 million on that versus Alibaba, which came in at just under a $1 billion. But since 2012 was an investment year for Facebook, let's just assume its operating margins, which where 45% in 2011 and north of 50% in 2010, will normalize somewhere closer to 30%. Comparing that to Alibaba's 41% margins last quarter or 28% margins in 2011, you should conclude margin-wise that Alibaba has the edge against Facebook, and that for now its model is likely to see more operating leverage because of the fee income, financing arm, and payments platform. If you agree with that, then Alibaba should be worth at least as much as Facebook's current $73 billion valuation. Problem is that is not the only thing working in Alibaba's favor; Facebook grew revenue 35% last year versus a growth rate over twice that at Alibaba. So Alibaba deserves and will get a growth premium which means it should find itself trading above (maybe well above) Facebook's market cap.
How to profit off this IPO?
The obvious focus here will be on Yahoo which many of you who read my regular musings know I am not a fan of, but which clearly stands to gain here. Yahoo, whose current market cap is $29.5 billion, still owns 24% of Alibaba. Now you don't need Wonka-sized imagination to figure out that it won't take more than your usual euphoria for Yahoo's entire current market value to be reflected by its remaining share in Alibaba on the first day of trading. Pretty crazy when you consider that would still leave you with $5.8 billion in cash, a stake in Yahoo Japan, and the actual Yahoo business for free. Of course that is not exactly how this will play out. The agreement with Alibaba requires Yahoo to sell half its remaining stake back to Alibaba at the IPO price, and to divest its remaining interest sometime after that. So, there is a clear incentive here for Alibaba to somewhat lowball the offering, and then do a larger secondary down the road at a much higher valuation. Assuming that is the case, I am guessing Alibaba prices at $70 billion which means Yahoo will have an after-tax gain on it stake sale of $5 billion. Add in the $840 million to buy back the pref shares from the previous sale and you end up with roughly $5.9 billion more in cash. Then there is Yahoo Japan, of which Yahoo owns 35%. At current market prices, this stake is worth $6 billion on an after-tax basis. I am also assuming this exit will happen once Softbank (OTC:SFTBY) is no longer distracted by the Sprint (S) acquisition battle. So adding this all up, you get to a pro forma cash balance of $17.7 billion. This means Yahoo Operating plus the remaining 12% of Alibaba is currently being valued at $12 billion. A steal right? I am not so sure about that. Let's assume Yahoo exits its remaining stake in Alibaba at $100 billion valuation. After tax that nets you another $7 billion. That leaves Yahoo Operating, which has roughly averaged $700-800 million in operating income for the last three years, and whose outlook is not exactly improving. Several sell-siders have valued this 'core' at $10-12 billion. I think that is ludicrous. If you ask me you don't pay more than 10x net income for this puppy, which equates to $5 billion on the high end of my range. And really if Marissa does not work a miracle here, fair value is likely closer to 6-7x current to account for the declining profitability trajectory in the core business. That puts Yahoo core closer to $3.5-$4. This leaves the stock perfectly priced at its current valuation assuming an avg Alibaba exit at $85 billion.
Of course, I'd probably discount this a bit considering Yahoo Japan exit is still unresolved and Alibaba IPO is pending. That being said I have been skeptical of Yahoo unlock trade since the stock was $15. What part of the recent reflate you want to attribute to that really panning out and to the market reflate is up to you, but I think the key shocker here is Alibaba. When Dan Loeb did his presentation on Yahoo 2.5 years ago, he conservatively valued it a $25 billion. He then came up with an upside scenario of $50 billion to get to a $26 target. What has happened here is that Thirdpoint and everyone else really underestimated just how much of a monster Alibaba would become. I am also going to guess none of these guys were banking on the Nikkei explosion doubling the value of their Yahoo Japan stake in their models. But as far as Core Yahoo goes, the bulls have been dead wrong. This is a value trap and a half. So despite everything going on here, I wouldn't buy Yahoo to play Alibaba unless you think Alibaba will open at over $100 billion. (Let's assume Alibaba passes Amazon (AMZN) and doubles Facebook and hits a $150 billion…after tax the remaining 12% stake would net just an additional $3 billion or about 10% more on Yahoo stock.) A better way to play this is to……
Buy Sina (SINA).
Because if Alibaba is going to get to $100 billion + the delta on Weibo/Alibaba growth story will be much higher, and value of core Sina+cash is trading at what is a true steep discount.
You could also wait for the Alibaba IPO and try to get long at a Facebook or lower market cap, and pair that with a short position in Facebook.