Chinese internet giant Alibaba Holdings Limited (NYSE:BABA) began selling public shares last year, but Warren Buffett did not invest in the e-commerce web site.
But what does Warren Buffett have to do with Alibaba, you ask?
Plenty, as it turns out. The legendary billionaire has a track record of investing in solid companies with simple business plans and revenue models, and Alibaba certainly fits the bill. His well-known aversion towards tech stocks doesn’t apply to what is essentially an old-fashioned marketplace, only in online form.
Why, then, did the famed Oracle of Omaha pass on investing in a surging company with high upside potential at a pivotal moment?
Hold on; let’s backtrack a little before we discuss why Warren Buffett won’t be eyeing Alibaba stock anytime soon.
The Alibaba stock price was selling at $68.00 at its initial public offering (IPO) last year, with its share price skyrocketing by 38% on the very first day of trading. (Source: Fortune, last accessed September 22, 2015.) Alibaba stock rode a wave of enthusiasm for large-scale e-commerce in the world’s fastest-growing economy to hit a peak of $120.00 on November 13.
But wait, BABA stock has nosedived since then. How did that happen?
Chart courtesy of www.StockCharts.com
Alibaba has been the target of lawsuits that state the company is selling fake goods online. We’re talking counterfeit Gucci and Prada purses, among other normally high-end items. (Source: The Wall Street Journal, last accessed September 22, 2015.) Several luxury designers launched a legal campaign against the company, asking for monetary compensation and an injunction against Alibaba for trademark violations and racketeering.
Another reason for the BABA stock price decline is the slowing Chinese economy, and the ongoing stock market crisis. Chinese gross domestic product (GDP) growth is forecasted to be “only” seven percent this year, and industrial growth has slowed considerably. (Source: BBC, last accessed September 22, 2015.) None of the major economic indicators for China are forecasted to improve in any sudden way, which is contributing to a feeling of cautiousness regarding Chinese companies like Alibaba.
Surging online competition has rocked Alibaba, with several major rivals sprouting up almost overnight and taking serious slices out of the company’s market share. (Source: CNBC, last accessed September 22, 2015.)
But wait, it gets worse.
Serious issues have arisen regarding Alibaba’s accounting methods. Indeed, analysts have pointed at the increasingly obvious disconnect between Alibaba’s inflated numbers and Beijing’s released figures. (Source: Business Insider, last accessed September 22, 2015.)
But what does this have to do with Warren Buffett, you ask again?
Here are the reasons for which Buffett, ordinarily hot to get on highly profitable companies with simple business models, won’t be touching Alibaba stock with a ten-foot pole.
One is that Alibaba has next to zero global brand appeal. It’s interesting how a year ago people were skittish about a possible Alibaba expansion into North America, citing all the piles of money the e-commerce web site was making. (Source: Reuters, last accessed September 22, 2015.) But that hasn’t happened. Amazon has in fact trounced Alibaba in the U.S. market, and Alibaba made a defeated exit in June. (Source: Forbes, last accessed September 22, 2015.)
So much for all the financial invasion rhetoric.
Another is that there is literally no barrier to other companies simply copying Alibaba’s business model, often with very little startup capital. Warren Buffett has always looked for unique companies which enjoy some sort of competitive advantage. (Source: Globe and Mail, last accessed September 22, 2015.). And Alibaba simply doesn’t have it.
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A third is that usage of Alibaba seems to have peaked. The volume being traded is now declining. The average purchases per user were trending upwards last year, but are now slowly winding down. Alibaba’s annual report shows that average gross merchandise value (GMV) per consumer declined in 2015, from RMB 1,811 to RMB 1,174. (Source: Alibaba, last accessed September 22, 2015.)
A fourth is that a shifting technological landscape is slowing Alibaba down. The company has not reacted well to rising use of mobile platforms for e-commerce. Mobile revenue for Alibaba declined by nearly 20%, from RMB 6.4 billion in December 2014 to RMB 5.2 billion in March 2015. (Source: Alibaba, last accessed September 22, 2015.) The company’s annual report again shows this was no simple seasonal downshift, but a marked downturn in usage.
The final reason is that Alibaba is seeing its profit margins evaporate. Just how bad? Alibaba reported a 33% drop in operating margin between March 2014 and March 2015. (Source: Alibaba, last accessed September 22, 2015.)
Now, let’s turn back to the questions of nefarious accounting practices. China’s leader Xi Jinping has launched a massive anti-corruption campaign, and financial cheaters are second only to corrupt politicians in his crosshairs. If I were an investor, I wouldn’t come anywhere near the corruption-riddled Alibaba stock, and neither would Warren Buffett.