Alibaba Stock: Understanding China's Ecommerce Giant

Well, there's no doubt that Alibaba is a business gaining enormous popularity amongst value investors at the moment. Last quarter, Charlie Munger bought it, and now this quarter we've seen Monash probably adding 50% to his position. We see Guy Spier buying in; we see Phil Town adding BABA to the Rule 1 Fund. Now, all these guys are highly respected value investors, and with Alibaba making headlines across the last six months for, well, not the best reasons, it seems like a classic case of our value investors being greedy when others are fearful.

So, with the stock currently crashing and all my favorite investors buying in, I thought now is the time we better do a deep dive into Alibaba. This is going to be a multi-part series—I'm not quite sure how many parts it's going to be; otherwise this video would literally go for like over an hour. In this video, we're going to take the time to understand what Alibaba does and whether it has a competitive advantage. Then, stay tuned for the next few videos where we'll talk about the super investors, the risks, and also the valuation. So, hopefully you enjoy this, guys. But with that said, let's get started.

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Hey guys, just wanted to say a huge thank you to everyone that's already subscribed to the new Money Clips channel. We're trying to get this one up off the ground at the moment, so if you haven't already subscribed, I would really, really appreciate it if you went over there, gave some of the videos some watch time, left a like on one of the videos, and subscribed to that channel. Actually, relevant to this video, we had a discussion on the Young Investors Podcast around Alibaba with Investing with Tom. So, if you wanted to listen to that discussion, you can check that out over on the Clips channel; a link should be coming up on the screen right now. But, please head over, subscribe, now let's get back to the video.

Now, before we start, I do want to say that these videos are not designed to make you want to, you know, buy or sell the stock—that's totally not my goal. Personally, I do hold Alibaba shares, but this video is in no way me trying to convince you to buy the stock. This is simply me laying down all the information I have learned over the past month or so, trying to learn and figure it out myself.

So, Alibaba was founded by Jack Ma in 1999, originally intended to be just a business-to-business e-commerce platform. However, with the rapidly growing wealth of China's population, Alibaba really took off after the launch of Taobao in 2003, which is a consumer-to-consumer e-commerce site, much like eBay. At this time, Ma also launched Alipay and would later invest in Tanyao, which forms Alibaba's iron triangle, their competitive advantage that we'll talk more about in a minute.

On the back of Taobao's success, Alibaba then launched Tmall in 2008, which is a business-to-consumer e-commerce platform where global brands could sell their wares to Chinese consumers, which again stepped up the growth in Alibaba. Now today, these still form the core of Alibaba's business. However, in recent years, Alibaba has also broadened their horizons, creating a cloud business, entering into the video streaming and entertainment space, adding a food delivery service, a travel agent, and much more. But with Alibaba looking like a bit of a conglomerate today, their number one business segment remains e-commerce, and that's where we'll start.

So, core commerce is still by far the most important revenue category for Alibaba. This can be broken down into China e-commerce, both retail and wholesale, and cross-border and global e-commerce, both again retail and wholesale. While Alibaba continues to grow cross-border e-commerce platforms like Alibaba.com, AliExpress, and Lazada—those are Alibaba's websites that we can access—the majority of their business stays within China and hinges from two main platforms, Taobao and Tmall.

Taobao is Alibaba's OG e-commerce site, facilitating consumer-to-consumer e-commerce with free listings and no commissions on transactions, with money instead being made in much the same way that Google makes money—you know, paying for your link to rank highly for certain keywords. Then Alibaba also runs Tmall, which is a business-to-consumer e-commerce site. You can think of this kind of like how Microsoft has a store on eBay. Many big Chinese and international brands run stores on Tmall, and Alibaba collects revenue through sales commissions and advertising.

Then, keeping within China, Alibaba also runs the wholesale e-commerce site 1688.com, designed to connect businesses within China and facilitate wholesale trade. And then, finally, crossing the borders internationally, Alibaba.com connects foreign businesses to Chinese, Hong Kongese, and Taiwanese sellers. AliExpress connects international businesses or individuals with Chinese sellers, still offering those warehouse prices, and Lazada is a Singaporean e-commerce site operating in Indonesia, Malaysia, the Philippines, Singapore, Thailand, and Vietnam, that sells items such as clothing, consumer electronics, household goods, and toys from its own warehouses, as well as allowing third parties to sell on their site.

Long story short, lots of e-commerce platforms that all do something a little differently. In their 2021 annual report, Alibaba reported that 66% of their revenue comes from retail e-commerce within China. Two percent comes from China wholesale e-commerce, five percent comes from international retail e-commerce, and two percent comes from international wholesale e-commerce. So that is a clean 75% of revenue coming from e-commerce, most of that through Taobao and Tmall in China.

Then, the last part of core commerce includes Chanyao logistics services and Alibaba's local consumer services. Chanyao is a logistics company launched in 2013 by Alibaba and six large Chinese logistics companies. This then grew to 14 local logistics companies in 2014, and the purpose of this company is to provide one-stop shop logistics services and supply chain management solutions, with the aim of fulfilling various logistics needs of merchants and consumers at scale, improving the warehousing and delivery process.

Put simply, really, the goal of this business is to fulfill consumer orders within 24 hours in China and within 72 hours anywhere else in the world. So lots of packages, lots of deliveries, Chanyao makes sure it happens as fast and as smooth as possible. So, in 2001, Chanyao represented five percent of Alibaba's revenue but indirectly accounts for a lot more, as it enables fast, smooth delivery from Alibaba's e-commerce sites—a key pillar in the consumer experience.

Then finally, in core commerce, we have local consumer services making up five percent of the revenue. This includes Ele.me, an Uber Eats style on-demand delivery platform where consumers can get fast delivery of food, beverages, groceries, consumer packaged goods, flowers, pharmaceuticals. It also includes Koubei, a restaurant and local services guide platform designed to get small businesses up and online. It also includes Fliggy, an online travel agency.

So overall, that is core commerce, and if you add all these subcategories together, plus two percent in other, you have 87% of revenue provided by core commerce. So, as you can see, the next three revenue segments are nowhere near the importance of core commerce in terms of Alibaba's current revenue. However, that is likely going to change over time, partly due to the growth in Alibaba Cloud.

So cloud computing is currently eight percent of Alibaba's revenue. Similar to Amazon and their cloud computing solution, AWS, Alibaba started Alibaba Cloud, which is still pretty early on in the grand scheme of things. Alibaba Cloud launched in September 2009 and today offers a range of cloud services, including elastic computing, database storage, network virtualization, large-scale computing, security management, and application big data analytics, a machine learning platform, and Internet of Things services.

So, similar to Amazon, your business can pay to tap into Alibaba's cloud computing infrastructure and can access the full suite of functionalities. Now, despite launching in 2009 and today being China's largest provider of public cloud services, Alibaba still considers this business to be in its infancy. They note that in 2020, China’s public cloud service market generated 19.4 billion US dollars in revenue.

According to IDC, this only accounted for 0.1 percent of China GDP in 2020—significantly lower than that of the US—implying tremendous room for growth, and it certainly has been growing revenue of 3.8 billion US dollars in 2019, 6.2 billion US dollars in 2020, and 9.2 billion dollars in 2021. If you ask me, that is pretty quick growth. However, it is worth noting that despite rapid revenue growth, this business is still in the red when you look at their income from operations.

As you can see here, core commerce is Alibaba's only source of profit right now, while the smaller businesses in cloud computing, digital media and entertainment, and innovation initiatives still consume money. And with that said, let's now move on to Alibaba's third key revenue segment, digital media and entertainment, which made up four percent of Alibaba's 2021 revenue. This segment is all about Youku. Youku is one of China's top online video and streaming service platforms along with Baidu's iQIYI, Sohu, and Tencent Video.

Sounds as though Youku very much used to be the YouTube of China; however, these days, under Alibaba control, it seems to have transformed much more into a streaming service with 70% of users using it to watch TV series, watch movies, and variety shows. Then, beyond Youku, there is also Alibaba Pictures that covers content production, promotion, distribution, IP licensing, cinema ticketing management, and data services for the entertainment industry. Beyond that, Alibaba even owns mobile game developer Lingxi Games.

So that overall, that is digital media and entertainment. And then finally, you have innovation initiatives and others. Now, this is only one percent of revenue, so I won't spend very much time on this. We see a lot of companies do this—they tend to start up, well, they tend to start up a lot of startups and they kind of just toy away with these new businesses over time, and most of these businesses are really just experiments that burn money until one day they might prove to be something else, and usually these companies just group them together.

For example, Google groups these types of businesses into other bets. In Alibaba's case, this includes a map, a mobile digital map provider with 150 million users, DingTalk, a mobile office platform, and Tmall Genie, which makes smart speakers, lights, remote controls, pretty much just so that customers can seamlessly access the different parts of Alibaba's ecosystem. So that's innovation initiatives, and with that said, they are the four revenue segments of Alibaba Group.

But wait, there's more. One final piece of the puzzle we must not forget is that Alibaba owns one third of Ant Financial, the company that owns Alipay. Now, Alipay is a comprehensive digital payment platform, which at a basic level just allows smooth transactions between buyers and sellers online, kind of like a PayPal. That was always what it was designed to do.

Alipay was born out of necessity for Jack Ma to have the puzzle pieces to actually create a viable e-commerce solution for China. There needed to be a seamless online transaction platform to make e-commerce work, so he made Alipay. Today, Alipay has over 1.3 billion users, most of which reside in China.

So, to recap, Alibaba Group has four key revenue segments. The most important, and the only one that operates at a profit, is core commerce. However, cloud computing is set to be a very large business as well in the future. Then, beyond the four revenue segments, there is also the one-third ownership of Alipay.

Okay, now to finish off this video, I wanted to talk about whether this business has a competitive advantage and the short answer is yes—multiple. There's no doubt Taobao and Tmall alone have an enormous network effect and have very much cemented their position as the dominant e-commerce players in China, in much the same way that Google has cemented their monopoly on internet search.

You can argue there's also a huge barrier to entry mode for other global e-commerce brands. I mean, eBay completely failed to take off in China. Amazon closed its Chinese domestic business in 2019 and now only offers products from overseas. You know, for cultural reasons, for political reasons, for logistical reasons, no other company has truly been able to rival Alibaba in China—they've all given up.

And with their huge network effect getting bigger and bigger each year, the barrier to entry also gets bigger and bigger. But the main competitive advantage of Alibaba is actually what Jack Ma describes as the iron triangle: a three-pillared competitive advantage explaining why Alibaba is the behemoth that it is today—one: e-commerce network effect; two: a trustworthy payment platform; and three: efficient logistics services.

Imagine you're trying to start an e-commerce site and, you know, you think you've got this awesome service that people are going to love. What are the other two things that you need to make people feel comfortable buying on your site? Well, you need secure payments and you need a good delivery service.

Now, in the late 1990s, Jack Ma saw the power of the internet and what it could do for Chinese e-commerce. However, at the time, he lacked the other two pillars. The big four Chinese state-owned banks offered very little service for individuals or small businesses because, as they were state funded, their number one objective was to service state-owned businesses.

And in terms of package delivery, people relied very heavily on China Post. These were obviously going to be big bottlenecks to success. So, Jack initially founded Alipay, a small-time banking and payment platform designed specifically for individuals and small businesses. Now, this meant he had control over a payment system that could then be used by the masses for Alibaba's e-commerce sites.

Then to solve the logistics problems, Jack Ma later invested in China Smart Logistics, also known as Chanyao. Tanyao, as we discussed before, links a network of logistics partners, merchants, and consumers to help improve deliveries, vastly increasing the speed and efficiency of package delivery and also reducing the incidence of damaged products and late deliveries.

And with those two businesses coupled with Taobao and Tmall, Alibaba had its recipe for success. That is the iron triangle that really enabled the huge network effect of Taobao and Tmall—because, end to end, the consumer experience when they visit those sites is fantastic. With those three pillars, plus the huge tailwind of the rising wealth of a large percentage of the enormous Chinese population, that was the ticket to building an e-commerce powerhouse.

So, guys, that will do us for part one of our little Alibaba mini-series. Obviously, still a lot to cover. Next up, we will be looking at these super investors and why they decided to buy into Alibaba. So stay tuned, please leave a like if you enjoyed this video, subscribe if you haven't, check out Profitful if you'd like to, and I'll see you guys in the next video.

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