Alibaba's Delayed Earnings: Don't Panic

Nov. 07, 2021 6:25 AM ETAlibaba Group Holding Limited (BABA)100 Comments
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Growth at a Good Price
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Summary

  • Alibaba announced on Friday that it would be releasing earnings on November 18th.
  • This is a full two weeks later than most people expected them to come out.
  • BABA stock sold off on the news, which could have some bearing on its fundamentals.
  • In this article I will reiterate my long-term bullish call on BABA, while highlighting both positives and negatives of the later-than-expected earnings.
  • Looking for more investing ideas like this one? Get them exclusively at Betting On Tomorrow. Learn More »

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Alibaba Group (NYSE:BABA) stock slid 3% Friday on news that the company would be releasing earnings on November 18th - much later than expected. While no earnings date was announced prior to this, most data platforms were expecting them to come out somewhere between November 3rd and November 11th.

At least some BABA investors were alarmed by the delay. As part of my research for this article, I put out a Twitter (TWTR) poll asking BABA investors whether they thought the delay was cause for concern. 36% of respondents said yes - a minority, but a sizable one.

So exactly how long of a delay is this?

We can gauge it by looking at BABA's previous earnings release. Alibaba's first quarter earnings were released August 3rd. Based on the first quarter earnings date, a Q2 release date this week was expected. NASDAQ.com projected November 4th, Tipranks said November 3rd, and Yahoo! Finance expected November 11th - that was the latest estimate on record before BABA announced they'd come out on the 18th.

It's important to note that companies are under no obligation to report earnings on a regular schedule. By SEC rules, they have to file 10-Qs within 45 days of the end of the quarter. That leaves a pretty wide window in which to file. However, by convention, companies normally release earnings on a regular schedule to correspond to the actual timing of fiscal quarters.

A typical quarter in a non-leap year has approximately 91 days. If BABA reported every 91 days, then we'd have expected earnings by November 2nd. If it went by a "days from the end of the quarter being reported" standard, we'd get to November 3rd. Either way, the actual release date was much later than what any regular schedule would have predicted.

The markets may have taken that as bad news. The stock slid Friday when the earnings date was announced, but there were other news stories impacting BABA on the same date. For example, Bloomberg reported that Beijing was mulling a takeover of BABA's South China Morning Post (SCMP) at 6:47 EDT Friday. That could have influenced the selloff as well. So it's hard to assess exactly how much of a role the late earnings played in the Friday selloff, but it's plausible that they were a factor.

Delayed earnings can be a genuine cause for concern. Some studies show that late earnings tend to contain bad news. Nevertheless, I remain bullish on Alibaba stock. If you consider possible reasons why it's taking so long to get second quarter earnings out, some of them are actually encouraging. So while the delay has a vaguely ominous ring to it, I remain committed to my long position. Here's why.

Why Did Alibaba Delay Earnings?

In order to understand the long term implications of BABA's delayed earnings, we have to consider why they were delayed. Certainly, BABA is under no obligation to report exactly 91.26 days from its previous report, or a uniform number of days from each quarter's end. But most companies try to stick to some predictable schedule. So we need to investigate why BABA might be pushing its earnings out later than expected.

First, the (potential) bad news:

Research suggests that late earnings are often misses. According to research by the University of Texas and MIT, good earnings tend to be released early while bad earnings tend to be late. The study's authors claim that companies release "on schedule" (i.e. in keeping with historical norms) 90% of the time. When they report five days late or more, the news is often bad. And investors tend to anticipate this, resulting in selloffs on news of such late reports. That's consistent with what we saw with BABA on Friday.

Now, on to some potential good news:

There are reasons to believe that BABA's delay was not caused by bad news. Rather, it may have been caused by extra accounting complexity that required more time to prepare the report.

As I've mentioned in past articles, BABA is about to spend $15.5 billion over five years on common prosperity investments. These investments work out to $3.1 billion a year. With little time to go in 2021, it's likely the first of these investments were made in Q2. Therefore, these investments are likely to show up on the company's Q2 balance sheet and income statement.

Currently, the exact nature of Alibaba's prosperity fund investments is an open question. Western media has been describing the investments as donations, while BABA's own statements simply call them "investments." If they are equity investments, then that would make BABA's Q2 accounting quite complex. To record an illiquid equity investment on your financial statements, you need to:

  • Obtain a valuation for the asset being bought.
  • Agree with the seller on a price.
  • Determine how much of the purchase price is goodwill.
  • Determine the impact on income and cash flow statements.

The first three steps in this process are quite complex. Agreeing on a price, for example, often entails months of negotiation, while valuation involves financial modeling. All of this is more involved than the routine accounting of transactions a company undergoes in a quarter. True, companies make these kinds of acquisitions all the time without major delays. But Alibaba's prosperity fund investments sprang up rather abruptly.

So, BABA's delay in releasing earnings may be due to the complexity of accounting for new, illiquid equity investments. That would be a good thing because it would imply that BABA is making real investments - not donations as some have claimed.

Alibaba: a Valuation Based on Recent Results

Having looked at Alibaba's recent earnings delay, we can now turn to the more "evergreen" matter of the stock's valuation. To begin with, we'll need to look at the company's recent results.

For the trailing 12 month period, BABA delivered:

  • $119 billion in revenue, up 40%.
  • $16.375 billion in operating income, down 0.12%.
  • $8.32 in GAAP diluted EPS, down 17.5%.
  • $33.3 billion in cash from operations, up 9.75%.
  • $24.15 billion in levered free cash flow, up 20%.

Overall, a pretty mixed bag. Revenue growth was very strong as usual, but some earnings metrics were down. Based on these results, we get the following multiples:

  • Price/sales: 3.6.
  • Price/earnings (GAAP): 19.
  • Price/operating cash flow: 12.91.

These metrics don't give us an exact valuation. But they do show that BABA is cheaper than the average tech stock. The FAANG stocks have P/E ratios ranging anywhere from 24 to 86. The 24 multiple is Facebook's (FB), the higher is Amazon's (AMZN). BABA is far lower than both, so it's cheaper than even "cheap" U.S. tech stocks. Yet its TTM revenue growth rate (40%) is about the same as Facebook's (42%) and higher than Amazon's (31%). This discrepancy suggests undervaluation.

Another way we can look at BABA's valuation is using a discounted cash flow model. This is where you find the value of an asset using its future cash flows discounted to present value. This model isn't perfect for common stock, for which cash flows aren't predictable, but it has the virtue of yielding a specific valuation.

To do a discounted cash flow analysis, you need N years of cash flows, the current discount rate, and cash flows for each year. In the case of stock a growth rate estimate is needed, because the cash flows don't stay the same. Ideally this analysis would use dividends - the cash flow to the investor - but in Alibaba's case there's no dividend, so I'll use free cash flow per share instead.

The relevant metrics for BABA are:

  • Free cash flow per share: $9.15.
  • Discount rate (10 year Treasury yield): 1.58%.
  • Number of years: free cash flow growth rate: 20%.

Let's try to discount 10 years' worth of future cash flows here (11 if you count the present):

N (number of years)

Undiscounted FCF per share

(1 + r)^N

Discounted FCF

0

9.15

1

9.15

1

10.98

1.0158

10.8

2

13.176

1.0318

12.76

3

15.81

1.0481

15.08

4

18.97

1.0647

17.81

5

22.76

1.081

21.05

6

27.32

1.098

24.88

7

32.78

1.115

29.39

8

39.34

1.133

34.72

9

47.21

1.15

41.05

10

56.65

1.17

48.42

TOTAL:

n/a

n/a

265.11

Based on this table, if we assume that BABA's FCF can keep growing at 20% a year, then the stock's intrinsic value is $265. That is a significant upside to today's price. Of course, we are using a fairly aggressive cash flow growth estimate here. But as the FAANG stocks have shown, big tech companies can keep up superior growth for a long time, even after becoming mega-caps. So, the scenario outlined above is not unrealistic at all.

Risks and Challenges

When considering a bullish thesis on any stock, it helps to consider the contrary position. We've already seen that BABA has strong growth and low multiples - that would tend to argue that it is a solid GARP play. But there are several risks and challenges for investors to be aware of. These include:

  • A Q2 earnings miss. Investors are already pretty jittery about BABA based on risk factors whose financial impact is uncertain. If risks materialize in the form of a major Q2 earnings miss, then that would likely send the stock lower. It would also invalidate the discounted cash flow analysis I performed above, which assumes solid 20% annualized growth in FCF.
  • More hostile measures from the CCP. Things have been pretty quiet on the CCP front lately, but there's always the possibility of more hostility from the Chinese government toward internet stocks. Just recently, Beijing mulled taking over BABA's flagship newspaper, the SCMP. That's not going to go over well with investors. Incidentally, I actually think the CCP pushing BABA out of media would be a long term positive, since the company's media holdings lose money. But the hostility implicit in such a move signals risk to investors.
  • Weak Chinese retail sales. In August, China's retail sales growth came in way under the expected 7%. At 2.5%, they massively disappointed. China currently accounts for 66% of BABA's total sales, so disappointing growth in the Chinese market could result in material damage to the company. Specifically, it could reduce growth in revenue, earnings and cash flows.

Investors need to keep these risk factors in mind. Any one of them could impose material costs on BABA, and damage the thesis for investing in it. Nevertheless, Alibaba remains one of the cheapest growth stocks out there. It has a lot of potential to rally if the current risk factors subside. I am long, and I will remain long for the foreseeable future.

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This article was written by

Growth at a Good Price profile picture
6.69K Followers
Financial journalist. Passed CFA Level 1. "Growth at a reasonable price" investor. Tech and dividend growth. Like classic value plays as well as GARP-y tech stocks. Follow me on Twitter: twitter.com/AJButton2

Disclosure: I/we have a beneficial long position in the shares of BABA, FB either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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