My two favorite Chinese companies, Alibaba Group Holding Limited (BABA) and Baidu, Inc. (BIDU), announced their earnings recently, and the results have been excellent. Both companies have essentially slumped their financial results park, with Alibaba beating BPA consensus estimates about 10% and Baidu smashing EPS estimates of more than 100%. Despite the strong results, both companies have lost significant margins since their 2020 highs. Additionally, both companies are remarkably undervalued compared to their Western counterparts, and both companies are good buys, in my opinion.
I have invested in Chinese companies for many years and have always had a place for the quality growth of Chinese stocks in my All weather wallet. However, due to the “China meltdown”, I have reduced my exposure to China in recent months. Nonetheless, I still own Alibaba and Baidu, and it looks like the tide is changing for Chinese stocks. The worst news is probably priced into stock prices right now, and it looks like a shift towards more positive news flow is beginning and should catalyze stock prices higher as we move forward. Therefore, Alibaba and Baidu could go much higher from here, and I add two more Chinese stocks.
Why I love Alibaba
A great way to think of Alibaba may be to imagine Amazon in China (AMZN). Like Amazon, Alibaba has a remarkably successful e-commerce platform. Also, Alibaba has one of the best cloud services in China and the company has many side businesses operating under its umbrella. However, while Amazon is valued at around $1.2 trillion, Alibaba’s market capitalization only floats around $250 billion today. In terms of valuation, Amazon is trading at around 42 times 2023 EPS estimates, while Alibaba is now trading at only about 9. I understand there is some risk associated with Alibaba being a Chinese stock, but does the company deserve to trade at a fifth of Amazon’s valuation?
Recently, there have been concerns about Alibaba’s growth prospects and profitability potential. However, the company’s most recent earnings announcement has put a lot of concerns to rest. Alibaba beat EPS consensus estimates around 10% and exceeded revenue forecasts by approximately 2%. Alibaba’s EPS and revenue estimates may have fallen too low with all the negativity surrounding the stock. Now, we could see some earnings beats and upward EPS revisions over the next few quarters.
Alibaba’s annual revenue increased by 19%, illustrating healthy growth and the likelihood of double-digit revenue growth. Earnings are also improving, implying that Alibaba’s margin could continue to strengthen, leading to greater profitability in coming years. Additionally, the company recently repurchased shares, announcing a huge Share buyback for $25 billion program.
Technically, Alibaba has been on a one-way lower since the fall of 2020. Its stock peaked at around $320 and is now trading around $90, or around 70% below its ATH. However, Alibaba has recently stopped making new lows and appears to be consolidating in the $80-$100 range. As the technical picture stabilizes, the stock will likely rise significantly.
Why I love Baidu even more
If Alibaba is the Amazon of China, then Baidu is the Google/Alphabet (GOOG) (GOOGL). With about a 74% market share, Baidu is the leading search engine in China. Additionally, the company dominates mobile search with its lion’s share of 95% of the market.
However, despite dominating the mobile search market in China, Baidu is much more than just a search company. In addition to its leading search business, Baidu also has one of the best cloud services in China.
While Alibaba retains the top spot in cloud services, Baidu ranks fourth with a share of around 10%. Additionally, the company’s cloud business is growing faster than expected, implying market share gains in the future. Additionally, Baidu has a majority stake in iQIYI, China’s leading online streaming platform.
Unique monthly visitors (in millions)
Additionally, Baidu is a leader in AI and is well positioned to take advantage of the upcoming robotaxi industry. The company plans to deploy its axis robot to hundred cities by 2030.
Recent revenue beat
Last quarter, the company exceeded EPS estimates by more than 100%, delivering $1.77 vs $0.94 expected. Additionally, Baidu smashed revenue expectations by around $320 million last quarter, about 8% better than consensus estimates. The company could continue to beat analysts’ EPS and revenue projections in the coming quarters.
With such lucrative businesses and better than expected financial results, you might think that Baidu is now worth hundreds of billions of dollars. After all, Alphabet’s market cap is $1.5 trillion today, while Baidu’s market cap is only around $48 billion. How is that even possible, you ask? Like Alibaba, Baidu shares took a heavy hit during China’s year-long meltdown.
18 month chart
We saw Baidu’s stock price drop from a high of around $360 to a low of around $100 during China’s year-long crash. Although Baidu has made gains recently, the stock remains exceptionally cheap today. Consensus EPS estimates relate to about $10 in 2023. Now that gives us a forward P/E ratio of only around 14. However, these earnings estimates have been lowered recently and are likely underestimated now. Baidu could continue to beat analysts’ expectations, just as it did in its latest earnings report.
Therefore, the stock could be much cheaper than it looks right now. Additionally, Baidu is expected to generate around $21-22 billion in revenue next year, showing that the stock is only trading at around 2.2 times forward sales. If we look at the price/sales ratios of similar companies like Google, Baidu is much cheaper than its Western counterparts.
Alphabet is trading at approximately five times sales. However, Alphabet is relatively cheap here, and it’s mega capital. Small cap companies with similar businesses and growth prospects currently trade at much higher multiples of 5 to 10 times sales or more. Therefore, Baidu’s 14x reduced (low) EPS estimates and 2.2x sales valuation are remarkably cheap here, and the stock will likely rise a lot as we move forward.
Where are these two actions going
I own ADRs in both companies. So naturally I want to see stock prices go up. However, I believe in their underlying businesses, and both stocks look very undervalued at the moment. Let’s also not forget that Alibaba and Baidu mainly operate in China, a country that is growing much faster than the United States and the West. While we may see 2-3% GDP growth in the United States in the coming years, China stay above 5%even when slowing down.
Therefore, leading Chinese companies likely have more growth potential than their US counterparts. Nonetheless, we see Chinese companies trading at much lower multiples. Therefore, there is an apparent disconnect here now, and we will likely see this valuation gap close as we move forward. We will likely see the P/E, P/S and other multiples of Chinese companies increase as Chinese equities increase risk and positive news flows. This momentum should improve sentiment, and materially higher stock prices for Alibaba and Baidu could follow.
My 1-year price target range for Alibaba is $150-180and my one-year price target range for Baidu is $175-200 now. In 3 to 5 years, these stocks could appreciate approximately fivefold. Therefore, I have a higher price target of $500 for Alibaba and $600 for Baidu by the end of 2025.
I add two more companies to the All-Weather portfolio
Yes, I am again increasing the Chinese holdings of the AWP. I add Pinduoduo Inc. (PDD), another hugely popular e-commerce giant. The second company I add is Nio Inc. (NIO), no stranger to the AWP. I have owned Nio in the past but the stock has gotten too cheap to pass up now. Nio is perhaps Tesla’s closest competitor (TSLA) has in China, and I want to own the stock here.
PDD: 18-month chart
The PDD experienced a dramatic decline during the collapse of China. This stock has lost about 85% of its value (from peak to trough). However, stocks seem to be recovering now, and we could see a substantial advance.
NIO: 18-month chart
Last year, Nio also struggled, but the stock may have finally bottomed around $13. Nio has a bright outlook despite the company’s transitional downturn, and this stock can likely rise much more in the coming years.
Risks for Chinese stocks
Although I am optimistic about the Chinese economy and Chinese companies, there are some concerns that we should not overlook. First, China has an authoritarian government. Therefore, there are risks of increased government regulation. In addition, there is a risk associated with the listing of Chinese companies in the United States. Chinese companies must comply with strict accounting standards, and it is not entirely clear whether most companies will comply. Other risks like geopolitical uncertainties and other variables can make investing in Chinese stocks riskier than their Western and US counterparts.