When King Kong comes walking through the jungle, you had better make room for him or be squashed. In no dissimilar fashion, when Alibaba makes its appearance in the financial jungle of stock markets, you can expect a number of investment funds to make room in their portfolios for it, or have their long-term performances squashed.
With still several weeks to go before Alibaba’s long-anticipated IPO, fund managers are hard at work analysing and planning which companies to toss out of their funds to make room for the largest internet company in the world.
“It is the 8,000-pound gorilla coming for the stock market,” exclaimed Michael Reynal, portfolio manager at San Francisco-based RS Investments.
“Any company that didn’t meet expectations and give a rosy outlook is probably being considered as a sale candidate to make room for a name like this,” elaborated Jim O’Donnell, chief investment officer of the investment group Forward.
What about you? Should individual investors likewise clear some room in their investment portfolios for Alibaba? If you are inclined to, you might want to brew yourself a few tins of coffee first, for the task is much more complicated than we might think.
Since the Chinese internet giant’s activities overlap those of so many companies, figuring out which ones to toss out is really quite the task.
Let’s take a quick look at just what types of companies may end up being displaced when Alibaba comes swinging into town.
The Outcasts
Though the exact date of Alibaba’s IPO on the New York Stock Exchange is not yet known, mid-September will likely be the time frame for what is expected to be the largest technology offering and sixth largest of any offering in history, estimated to surpass Facebook’s $16 billion debut.
Yet Alibaba isn’t just one company, but rather a portfolio of at least 25 companies catering to the online needs of the second largest economy in the world – China, with a population of over 1.2 billion. When it jumps into the swimming pool, you can bet an awful lot of boats are going to be pushed out of the way.
Here are just four of Alibaba’s largest businesses and the counterparts that might be displaced out of fund managers’ portfolios:
• AliExpress: A global e-commerce marketplace showcasing more than 54 million products in 26 major product categories, with 7.7 million registered users in more than 200 countries and regions. Its counterparts? Amazon.com Inc (NASDAQ: AMZN), Baidu Inc (NASDAQ: BIDU), and Tencent Holdings Ltd (OTC: TCEHY).
“I imagine Amazon is being looked at,” O’Donnell suspects. Amazon shares have been falling since reaching a peak at the beginning of 2014, and its numbers are getting worse all the time. In Q3 the company reported dismal profit and operating margins of 0.22% and 0.76%, with equally disappointing returns on assets and equity of 1.14% and 1.87%. “By contrast,” reports Reuters, “Alibaba boasted a 47.5 percent operating margin in fiscal year 2014, ending in March, according to its IPO filing.”
While Baidu and Tencent both posted far better margins in their high 20’s and low 30’s percentage, with returns on assets and equity ranging from 10% to 34%, analysts believe many funds will trim these positions in favor of Alibaba, since all three cater to the Chinese market which Alibaba already dominates.
• Taobao Marketplace: Among the world’s top 20 most visited websites, Taobao is China’s most popular C2C online shopping platform with more than 800 million product listings and more than 500 million registered users. Its counterpart? e-Bay.com (NASDAQ: EBAY).
Ebay’s latest figures make it a foregone conclusion that it too will be trimmed when Alibaba arrives, posting a profit margin of -0.65% and a return on equity of -0.55%. Managers can’t be happy at all with eBay’s stock performance, which has been flatlining since the start of 2013, posting a gain of just 5% since then, as compared to the NASDAQ’s 47% over the same period.
• eTao: A comprehensive shopping search engine in China offering product search, rebates, coupons, and group shopping discounts. With more than 1 billion product listings, more than 5,000 business-to-consumer and group shopping websites, and more than 200 million pieces of shopping-related information, eTao beats the pants off of its counterpart Groupon.com (NASDAQ: GRPN).
Groupon’s most recent numbers are even worse than eBay’s, posting profit and operating margins of -5.03% and 0.09%, with returns on assets and equity of 0.08% and -17.94%. Its stock has been a washout, down over 65% from its late-2011 debut, and down 35% over the past year.
• Alipay: The most widely used third-party online payment platform in China, linked to more than 170 financial institutions including Visa and MasterCard, and to more than 460,000 merchants, with capabilities of processing transactions in 14 major foreign currencies.
Since Alipay’s largest rival PayPal is not a publicly traded company but is owned by eBay, we might expect eBay shares to be trimmed even more on account of Alibaba’s double-whammy against eBay’s ativities.
Diversification May Help Some Rivals
Naturally there are numerous other companies that stand a good chance of being displaced by Alibaba given the conglomerate’s widely overlapping sphere of influence. But some of these companies are doing something to make themselves more appealing to investors and investment funds… they’re diversifying.
• Yahoo! (NASDAQ: YHOO), for instance, which owns around 22.5% of Alibaba, has seen its stock price surge 155% over the past two years largely owing to the long anticipated Alibaba IPO. Yet fund managers are expected to trim Yahoo’s holdings nonetheless, given the company’s announcement a while back that it will sell at least 25% of its Alibaba stake – if not more – soon after it debuts, making Yahoo’s stock less appealing and much less profitable.
“A lot of people know they’re not going to get IPO shares, so they hold Yahoo and Softbank [which holds a 34% stake in Alibaba],” explained Mark Yusko, fund manager and CIO of Morgan Creek Capital Management.
“I bet a lot of people are playing Yahoo for Alibaba, and once the IPO is gone, they may exit Yahoo completely,” concurred Paul Meeks, a senior analyst and portfolio manager at Saturna Capital.
Already well aware of this strategy by investors and funds, Yahoo is attempting to soften the blow and reduce the selling pressure on its stock by diversifying. Just yesterday the company announced the completion of its purchase of Flurry, “the industry leader in mobile analytics,” Yahoo blogged to its fan base in July.
The purchase ”reinforces our commitment to building and supporting useful, inspiring and beautiful mobile applications and monetization solutions,” Yahoo explained the reason for its interest in Flurry.
Will Yahoo’s push into mobility be enough to convince fund managers to keep their allocations to Yahoo’s stock unchanged? Doubtful. You can bet Alibaba will be invading mobile devices as well, and likely with greater success than Yahoo.
• Amazon is similarly diversifying its business to make itself more competitive against Alibaba, venturing into very diverse spheres which include producing television content, manufacturing and selling smart phones and other hardware, and developing its own aerial drones likely for use in delivering products to its shoppers.
Moreover, Amazon has an advantage in its complete dominance over the North American market, while Alibaba is mostly an Asia player. Even so, while it is unlikely investment funds will dump all Amazon shares once Alibaba’s shares become available, it is beyond a doubt that some Amazon positions will be trimmed given the company’s poor performance in recent years.
Options for Investors
So what are individual investors to do? If you like Alibaba’s rivals such as Amazon and eBay, or Alibaba’s current shareholders such as Yahoo and Softbank (a purely electronic online banking firm), then you might want to follow the footsteps of fund managers as they trim some of those positions in favor of Alibaba.
We might simply treat Alibaba as something of a mutual fund in its own right. In this one stock alone, investors will have exposure to not only a broad spectrum of at least 25 e-commerce companies, but also to the fastest growing consumer marketplace in the world… China.
“By 2020, online retail sales in China are estimated to reach $420 billion to $650 billion, as much as the United States, Japanese, U.K., German and French markets combined, according to a recent analysis by McKinsey Global Institute,” Reuters reports.
Alibaba can serve as your gateway to two rapidly expanding consumer universes… cyberspace and Asia, all conveniently packaged together in just one stock. This is one King Kong that will not meet his demise in New York – but his rise.
Joseph Cafariello
