Is Alibaba A Threat To Amazon?

| About: Alibaba Group (BABA)


Alibaba has a proven track record of outperforming with the limited resources.

Alibaba will not be a threat to Amazon in the United States, as Amazon has too many advantages.

Alibaba will likely decrease Amazon's growth in international countries.

In the few weeks preceding Alibaba's (Pending:BABA) record setting IPO, it is perhaps time to ask whether Alibaba is a threat to Amazon (NASDAQ:AMZN).

The question seems laughable now, as Amazon is the 800 pound gorilla in American e-commerce. The Seattle, Washington company has enormous resources with its hyper efficient technology, enormous clientele, and a $158 billion in market capitalization. Amazon is used to being a threat to other companies such as retailers, book sellers, and publishers, not the other way around.

But history has shown that the tech landscape can change very quickly. Upstarts can unseat giant companies in a decade or so. Steve Ballmer famously laughed at Apple's (NASDAQ:AAPL) iPhone when it first came out in 2007, only to see the iPhone become more profitable than Microsoft in less than a decade.

Alibaba itself was only worth $2.5 billion in 2005 when Yahoo (NASDAQ:YHOO) made a $1 billion investment for 40% of the company. Now it is expected to IPO for well over $150 billion.

Defeating eBay in China

In terms of defeating Goliaths, Alibaba has done it before.

In 2003, eBay (NASDAQ:EBAY) tried to buy its way into the Chinese e-commerce market with a $150 million acquisition of EachNet. At the time EachNet had 85% of the e-commerce marketshare in China.

As an answer to eBay, Alibaba started the auction site Taobao. Unlike eBay EachNet, which charged fees on top of the cost of the item, Taobao charged no fees. Because it was free and more tailored to local tastes, Taobao eventually captured the lion's share of China's e-commerce market. eBay eventually folded up EachNet into a joint venture with Tom Online.

So even though eBay had more resources, Alibaba won because it played for the long term and focused on making the customer happy rather than making its investors happy in the next quarterly earnings report.

The Alibaba Threat to Amazon

Amazon is almost a carbon copy of Alibaba in the sense that it thinks long term and puts customers first.

From this view, Alibaba's advantage over eBay does not apply to Amazon. Alibaba would not be able to grab marketshare by being the cheapest, as Amazon would likely be even cheaper. Moreover, Amazon has a two decade headstart in the United States, with a massive customer base, loyal customers, hyper efficient distribution centers, and extensive economies of scale. Alibaba would need a miracle to defeat Amazon in the United States.

Outside of the United States, however, Alibaba is a threat to Amazon. In many countries around the world, e-commerce is still in its infancy. Those growth markets, such as Brazil and India, are still up for grabs and Alibaba will likely be able to take marketshare away from Amazon. Alibaba may also be able to buy its way into those markets much in the same way that eBay bought its way into China in 2003.

In addition to competing in e-commerce, Alibaba will likely take marketshare away from Amazon in adjacent technology verticals. Since 2012, Alibaba has done 29 deals worth $16 billion. Those deals include everything from soccer to finance to entertainment. Like Amazon, Alibaba also wants to be the everything store. With its large market capitalization and impressive technology talent, Alibaba may one day deliver its own TV shows and cloud infrastructure like Amazon does today.

Both fundamentally promising companies

While they may compete against each other internationally and in technology verticals, both Amazon and Alibaba are promising long term investments. Since Alibaba and Amazon dominate their respective countries' e-commerce markets, neither is a threat to each other in their home countries.

Buying both companies is basically buying innovation. Amazon has shown its ability to create new markets with the introduction of the Kindle and Amazon Web Services, while Alibaba has similarly spread to new markets such as financial payments (with its 37.5% economic stake in Alipay) and digital media. With their huge customer bases and talented employees, both companies also have the distribution and skill necessary to bring new products to market quickly and monetize those products efficiently.

Many point to the fact that Amazon has a sky high price to earnings ratio and say that Amazon is not a good buy, but the detractors neglect to mention that Amazon is not running itself for money. With its high customer loyalty and affluent customer base, Amazon has significant pricing power that it is currently not using. Amazon is intentionally keeping its prices low to take even more marketshare and build even greater economies of scale. Plus, a significant part of Amazon is Amazon Web Services, which should naturally command a high price to earnings ratio given its high growth and the fact that computing costs trend lower over time.

As long as shareholder governance does not become a concern, Alibaba could be an even greater investment than Amazon. Alibaba is already very profitable - it made $1.1 billion in operating income excluding one time gains last quarter. Alibaba also has great growth ahead of it, with the Chinese e-commerce market poised to grow around 21% a year until 2017.

Given their impressive track record of execution and the enormous resources at their disposal, the future for both Amazon and Alibaba looks very bright.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.