Amazon (AMZN, Financial) and Alibaba (BABA, Financial) have a lot in common. They are both the largest e-commerce companies in their respective home countries, and both are industry leaders in Cloud computing. Both have benefited from a two-decade-long boom in digital transformation. Since October 2020 for Alibaba and December 2021 for Amazon, their stock prices have declined by 71% and 46%, respectively, putting them in what many would consider undervalued territory.
Both stocks have suffered from declining e-commerce margins due to inflation and the weakening economy, and the Cloud business has also been growing slower than expected as companies watch their spending. The good news is, the global e-commerce industry is forecasted to grow at an 11.57% compounded annual growth rate (CAGR) and reach a value of $6.35 trillion by 2027, according to Statista. Therefore, I believe both stocks are set for a rebound. But, which one is the better value? Let's take a look.
Amazon
In the fourth quarter of 2022, Amazon's (AMZN, Financial) revenue reached $149.2 billion, exceeding analysts' expectations by $3.43 billion and increasing by approximately 8.59% compared to the same period of the previous year. However, Amazon did see a $5 billion foreign exchange rate headwind, meaning that if revenue had been measured on a constant currency basis, the growth rate would have been higher at 12% year over year. While this growth rate is lower than the 14.7% growth seen in the third quarter of 2022, it was expected due to the current macroeconomic climate.
International revenue plummeted by 8% year over year to $34.5 billion, not all of which can be blamed on foreign exchange headwinds. The good news is the U.S. dollar to Euro exchange rate has corrected down since October 2022.
Another positive for Amazon is its Cloud busines, Amazon Web Services (AWS), has still continued to grow. Its revenue increased by 20% year over year in the fourth quarter to $21.4 billion. According to a study by Fortune Insights, the Cloud industry is forecast to grow at a rapid 19.9% CAGR and reach a value of $1.7 trillion by 2029.
Moving on to profitability, Amazon reported operating income of $2.7 billion, which decreased by over 20% year over year. The only positive was operating income has increased from the $2.5 billion reported in the third quarter.
Also, it should be noted that Amazon’s overall decline in profitability was squeezed by a ~9% increase in operating expenses to $146 billion for the fourth quarter. About 13.9% of these expenses, or ~$20.8 billion, was driven by “Technology and Content” expenses. Therefore, I don’t deem this to be necessarily bad as the company has invested for the future.
Amazon has also made a number of layoffs across the company. In January 2023, CEO Andy Jassy announced plans to lay off 18,000 employees, and then in March, he announced a further 9,000 job cuts.
This may seem like the act of a company that is going through tough times, but I think we need to keep perspective. If we zoom out, we see Amazon increased its number of employees by nearly double from ~800,000 at the end of 2019 to 1.6 million by the end of 2022. A lot of unecessary roles can end up being created in such a big company on such a huge hiring spree, so the job cuts may not necessarily impact the company's performance.
A positive for Amazon is its free cash flow has started to improve. Its trailing 12-month FCF was -$23.5 billion in the second quarter of 2022. This was down substantially from the positive $31.9 billion reported in the same quarter of 2020. Things finally are beginning to look up as of the fourth quarter of 2022, as free cash flow improved to -$11.6 billion in the trailing 12 months. Therefore, moving forward, I expect cash flow to continue to improve, especially as Amazon’s capital expenditures have begun to level off.
Amazon trades at a price-sales ratio of 2.04, which is 48% cheaper than its five-year average.
The GF Value chart indicates a fair value of ~$200 per share. This means the stock is undervalued at the time of writing. The system does warn of a possible “value trap" due to the declining profitability. However, I believe the company is in a solid place to turn things around given its dominant market positions in industries with great long-term prospects.
Alibaba
Similar to Amazon, Alibaba (BABA, Financial) has reported slowing revenue growth due to macroeconomic factors. In the third quarter of its fiscal year 2023, Alibaba reported $35.9 billion in revenue, which increased by just 1% year over year. The main headwind against revenue growth was tepid consumer sentiment and the Covid lockdown policies in China.
The good news is, after popular protests on the lockdowns, China’s health ministry is reported to be reclassifying Covid-19 as a less deadly virus and the restrictions are now easing.
In addition, the IMF forecasts GDP in China to grow by a rapid 5.3% in 2023. To put that into perspective, U.S. GDP is expected to be flat (and may even decline in 2023).
Alibaba has also recently announced plans to split its business into multiple segments and potentially IPO each part. This could help to unlock shareholder value due to increased access to capital and faster decision making.
Another positive for Alibaba is its China commerce business increased revenue by a solid 10% year over year to $10.79 billion. This was driven by strong growth of Alibaba’s telemedicine business, which offers virtual doctor visits and more. Given most things are online these days, it seems a surprise that health care is still so old-fashioned.
Interestingly enough, Amazon has also been extremely bullish on telemedicine. In fact, in February 2023, Amazon closed a $3.8 billion deal to acquire One Medical. According to Grandview Research, the global telehealth market is forecast to grow at a rapid 24% CAGR up until 2030. Therefore, I suspect both Amazon and Alibaba will benefit.
Unlike Amazon, Alibaba has recently announced substantial improvements in its profitability. The company reported $5.47 billion in operating income in the latest quarter, which increased by 7.89% year over year, while its earnings per share increased by an even greater 61%. This was driven by a variety of efficiency improvements across the organization, which included operating leverage gains across its sales and marketing expenses. This metric reduced from 15% of total revenue in the prior quarter to just 12% by the third quarter of fiscal 2023.
Alibaba trades at a price-sales ratio of 2, which is 71% cheaper than its five-year average and at a similar level to Amazon.
The GF Value chart indicates a fair value of $219 per share and thus the stock is significantly undervalued at the time of writing.
Final thoughts
Amazon and Alibaba are two tremendous and dominant e-commerce and Cloud companies. Both companies have faced a series of headwinds but look to be poised for a rebound in the long term. Alibaba is poised to benefit from the strong growth in China’s economy (and its huge population), whereas Amazon can benefit from growth in emerging markets and a recovery in the U.S. Alibaba does have “country risk” for U.S. investors, which is worth keeping in mind. Amazon is thus the stock I prefer as I'd rather reduce my exposure to stocks that may be affected by politics. However, I think both stocks are a great value.
