Alibaba And Baidu: The Bottom Is Finally Here

Summary

  • My two favorite Chinese companies, Alibaba and Baidu, have declined for more than a year.
  • During that time, both stocks became drastically oversold and dramatically undervalued.
  • While there is some risk in owning Chinese stocks, I don't see why they should trade at such ridiculously low multiples.
  • After all, China's growth isn't dead, and there is remarkable growth potential in quality tech, especially after the meltdown.
  • I own Baidu and Alibaba, but I am about to add two more Chinese stocks to my All-Weather Portfolio.
  • This idea was discussed in more depth with members of my private investing community, The Financial Prophet. Learn More »

Chinese Top 3 internet corporations" websites

wonry/iStock Unreleased via Getty Images

My two favorite Chinese companies, Alibaba Group Holding Limited (BABA) and Baidu, Inc. (BIDU), reported their earnings recently, and the results were excellent. Both companies essentially knocked their earnings results out of the park, with Alibaba beating consensus EPS estimates by roughly 10% and Baidu smashing EPS estimates by more than 100%. Despite the stellar results, both companies are down by significant margins since their 2020 highs. Moreover, both companies are remarkably undervalued relative to their Western counterparts, and both companies are strong buys, in my view.

I've invested in Chinese companies for many years and always had a place for quality growth in Chinese stocks in my All-Weather Portfolio. However, due to the "China Meltdown," I've cut down my China exposure in recent months. Nevertheless, I still own Alibaba and Baidu, and it looks like the tide may be shifting for China stocks now. The worst of the news is probably priced into the share prices currently, and it appears that a shift to a more positive newsflow is beginning and should catalyze stock prices higher as we advance. Therefore, Alibaba and Baidu could go much higher from here, and I'm adding two more Chinese stocks.

Why I Like Alibaba

An excellent way to think about Alibaba may be to imagine China's Amazon (AMZN). Like Amazon, Alibaba has a remarkably successful e-commerce platform. In addition, Alibaba has one of the top cloud services in China, and the company has numerous secondary businesses operating under its umbrella. However, whereas Amazon is valued at around $1.2 trillion, Alibaba's market cap is floating at only around $250 billion today. Valuation-wise, Amazon is trading at about 42 times 2023 EPS estimates, while Alibaba now trades at only about 9. I understand that there is some risk associated with Alibaba being a Chinese stock, but does the company deserve to trade at one-fifth of Amazon's valuation?

Recently, there's been some concern regarding Alibaba's growth prospects and profitability potential. However, the company's most recent earnings announcement put many concerns to rest. Alibaba beat consensus EPS estimates by around 10% and surpassed revenues expectations by approximately 2%. Alibaba's EPS and revenue estimates may have come down too much with all the negativity surrounding the stock. Now, we could see earning beats and upward EPS revisions in the coming quarters.

YoY Alibaba's revenues increased by 19%, illustrating healthy growth and the likelihood of more double-digit revenue growth. Earnings are also improving, implying that Alibaba's margin could continue to strengthen, leading to more profitability in the coming years. Furthermore, the company is recently buying back stock, announcing a massive $25 billion share buyback program.

Technically

BABA stock technical chart

BABA (StockCharts.com)

Technically, Alibaba has been on a one-way ticket lower since the fall of 2020. Its stock topped out at about $320 and is now trading at around $90, roughly 70% below its ATH. However, Alibaba stopped making new lows recently and appears to be consolidating in the $80-100 range. As the technical image stabilizes, the stock will likely move substantially higher.

Why I Like Baidu Even More

If Alibaba is the Amazon of China, then Baidu is the Google/Alphabet (GOOG) (GOOGL). With roughly a 74% market share, Baidu is China's leading search engine. Moreover, the company dominates mobile search with its 95% lion's share of the market.

China search

China search (theegg.com)

However, despite dominating China's mobile search market, Baidu is much more than just a search company. In addition to its leading search business, Baidu also has one of the top cloud services in China.

China cloud

China cloud (chinainternetwatch.com)

While Alibaba retains the top cloud service position, Baidu is in fourth place with about a 10% share. Moreover, the company's cloud business is expanding faster than anticipated, implying market share gains in the future. Furthermore, Baidu has a majority stake in iQIYI, China's leading online streaming platform.

Unique Monthly Visitors (in millions)

China streaming

China streaming (Statista.com )

Additionally, Baidu is a leader in AI and is well-positioned to take advantage of the coming robotaxi industry. The company has plans to deploy its robotaxis to one hundred cities by 2030.

Recent Earnings Beat

Last quarter, the company beat EPS estimates by more than 100%, delivering $1.77 vs. the expected $0.94. Moreover, Baidu crushed revenue expectations by about $320 million last quarter, roughly an 8% beat over the consensus estimates. The company could continue surpassing analysts' EPS and revenue projections in the coming quarters.

Valuation Perspective

With such lucrative businesses and better than anticipated financial results, you may think that Baidu is worth hundreds of billions of dollars now. After all, Alphabet's market cap is at a staggering $1.5 trillion today, while Baidu's market cap is only around $48 billion. How is that even possible, you ask? Like Alibaba, Baidu's stock has been beaten down badly during the year-long China meltdown.

18-Month Chart

BIDU 18-month chart

BIDU (StockCharts.com)

We saw Baidu's share price drop from a high of around $360 to a low of approximately $100 during the year-long China meltdown. While Baidu has made some gains recently, the stock remains exceptionally cheap today. Consensus EPS estimates are for about $10 in 2023. Now, this gives us a forward P/E ratio of only about 14. However, these earnings estimates have been lowered recently and are probably lowballed now. Baidu could continue surpassing analysts' expectations, much like it did in its most recent earnings report.

Therefore, the stock could be much cheaper than it seems right now. Moreover, Baidu should deliver about $21-22 billion in revenues next year, illustrating that the stock is trading at only about 2.2 times forward sales. If we look at price to sales ratios of similar companies such as Google, Baidu is much cheaper than its Western counterparts.

For example:

Alphabet trades at about five times sales. However, Alphabet is relatively inexpensive here, and it is a mega cap stock. Smaller cap companies with similar businesses and growth prospects trade at much higher multiples of 5-10 times sales or higher right now. Therefore, Baidu's 14 times reduced (lowballed) EPS estimates and 2.2 times sales valuation is remarkably cheap here, and the stock will probably go much higher as we advance.

Where These Two Stocks Are Going

I own ADRs in these two companies. So, naturally, I want to see the share prices go higher. However, I believe in their underlying businesses, and both stocks look very undervalued right now. Also, let's not forget that Alibaba and Baidu primarily operate in China, a country growing much faster than the U.S. and the West. While we may see 2-3% GDP growth in the U.S. in the coming years, China's will likely remain above 5%, even in a slowdown.

Therefore, China's top companies probably have more growth potential than their U.S. counterparts. Nevertheless, we see Chinese firms trading at much lower multiples. Therefore, there is an apparent disconnect here now, and we will likely see this valuation gap close as we advance. We will probably see Chinese companies' P/E, P/S, and other multiples expand as more risk comes out of Chinese equities and more positive news flow circulates. This dynamic should improve sentiment, and substantially higher stock prices for Alibaba and Baidu could follow.

My 1-year price target range for Alibaba is $150-180, and my 1-year price target range for Baidu is $175-200 now. In 3-5 years, these stocks could appreciate approximately fivefold. Therefore, I have an upper-end price target of $500 for Alibaba and $600 for Baidu by year-end 2025.

I'm Adding Two More Companies To The All-Weather Portfolio

Yes, I am increasing the AWP's China holdings again. I am adding Pinduoduo Inc. (PDD), another extremely popular e-commerce giant. The second company I am adding is Nio Inc. (NIO), no stranger to the AWP. I've owned Nio in the past, but the stock has become too cheap to pass up now. Nio may be the closest competitor Tesla (TSLA) has in China, and I want to own the stock here.

PDD: 18-month chart

PDD 18-month chart

PDD (StockCharts.com)

PDD went through a spectacular decline during the China meltdown. This stock lost approximately 85% of its value (from peak to trough). However, shares appear to be on the mend now, and we could see a substantial advance.

NIO: 18-month chart

NIO 18-month chart

NIO (StockCharts.com)

This past year, Nio also had a rough ride, but the stock may have finally bottomed around $13. Nio has bright prospects despite the company's transitory slowdown phase, and this stock can probably move much higher in future years.

Risks To Chinese Stocks

While I am bullish on the Chinese economy and Chinese companies, there are some concerns that we should not overlook. First, China has a heavy-handed government. Therefore, there are risks of more government regulation. Moreover, there is a risk associated with Chinese companies being listed in the U.S. Chinese companies need to comply with strict accounting standards, and it is not entirely clear if most companies will comply down the line. Other risks like geopolitical uncertainties and other variables may make investing in Chinese stocks riskier than in their Western and American counterparts.

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This article was written by

Victor Dergunov profile picture
35.3K Followers
Diversified quality investment ideas

Hi, I am Victor Dergunov! It all goes back to looking at stock quotes in the old Wall St. Journal when I was 16. What do these numbers mean? I thought. Fortunately, my uncle was a successful commodities trader on the NYMEX, and I got him to teach me how to invest. I bought my first actual stock in a company when I was 20, and the rest, as they say, is history. Over the years, some of my top investments include Apple, Tesla, Amazon, Netflix, Facebook, Google, Microsoft, Nike, JPMorgan, Bitcoin, and others.

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Disclosure: I/we have a beneficial long position in the shares of BABA, BIDU 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.

Additional disclosure: I am long a diversified portfolio with hedges.

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