Alibaba’s Potential Listing in HKEX: What Does It Mean for Investors?

Author: | Date:

Have you ever bought clothing during the 11.11 Taobao Sales? 

Or have you heard the prowess of cashless transactions in China via AliPay? 

Maybe, you have bought appliances off Lazada or ordered groceries from RedMart. 

Well, all the aforementioned e-commerce businesses belong to one sole Chinese giant – Alibaba Group.

Alibaba’s steps towards its Secondary Listing in HKEX

Alibaba has recently taken decisive steps in ramping up its plans for a Secondary listing in the Hong Kong Stock Exchange. 

The first step was taken when Bloomberg reported Alibaba had appointed China International Capital Corporation and Credit Suisse Group to lead a secondary listing in Hong Kong. 

Alibaba HQ

This was swiftly followed by Alibaba’s Annual General Meeting on 15th July 2019 where shareholders overwhelmingly approved a 1-to-8 split of the company’s US-listed stock, a move the company has said would give it greater flexibility for raising capital, including issuing new shares. 

The company will thus divide its existing shares into a multiple of 8 shares to boost the liquidity. 

Although the number of shares outstanding increases by a specific multiple, the total dollar value of the shares remains the same compared to pre-split amounts, because the split does not add any real value.

Such steps come with its recent filing for a stock listing application in the Hong Kong Stock Exchange in mid-June.

A Brief Background on Alibaba

Alibaba Group was established in 1999 by 18 people led by the world-renowned, Jack Ma. 

Since launching its first website helping small Chinese exporters, manufacturers and entrepreneurs to sell internationally (very much like Ebay and Amazon), Alibaba Group has grown into a global powerhouse in online and mobile commerce.

Today the company expanded beyond its wholesale and retail online businesses into cloud computing, digital media and entertainment, innovation initiatives and others.

They include a plethora of business in the digital economy sector, these include names such as: 

Taobao is a Chinese online shopping website which facilitates online retail by providing a platform for small businesses and entrepreneurs to open online stores to cater to the general public (Think Carousell but with more first-hand goods being sold).

Taobao has more than 500 million active customers, making it one of the largest e-commerce platforms in the world. 

Alibaba’s Tmall, meanwhile, helps Chinese and international companies sell higher-end branded goods in China.

 Many larger American and European brands already have storefronts on Tmall, such as L’Oréal, Adidas, Procter & Gamble, Unilever, Gap, Ray-Ban and Levi Jeans. 

This pool of global brands is still growing, with the luxury fashion brand Micheal Kors opening a flagship retail stall on the platform. Such companies leverage the platform to reach China’s massive consumer base. 

Another noteworthy business is Ant Financial, the operator of key financial services businesses in China. 

This includes mobile payments through Alipay, which handles transactions on Taobao and Tmall’s eCommerce platforms. 

It has since expanded to support mobile payments in stores and restaurants, a trend that has taken off the past few years as it eliminates the need for cash in China (similar to the likes of Paylah! and Grabpay in Singapore).

Today, Alipay has 870Million active users, with nearly a third outside China. 

Note that, even though Ant Financial is operated by Alibaba Group, it is not owned by the company and thus its financials are not reported in the group’s revenue. It is listed instead as an unconsolidated related party of Alibaba group.

Taking a look at Alibaba’s full fiscal 2019 results presentation, it appears that Alibaba’s core China commerce retail business is growing healthily at 51% year-on-year. 

Furthermore, their diversification into its non-core businesses such as Cloud Computing depicts a strong revenue growth of 84%. 

From the graph, we can clearly see a steady increase in the growth of both Alibaba’s revenue and gross profits. 

Consumer Spending in China has essentially grown substantially in the past 10 years and show no apparent signs of slowing down.

Chinese Consumer Spending by Trading economics

This would potentially continue to drive Alibaba’s core e-commerce business as consumer spending is on the rise. 

Furthermore, the fruits of its diversification into other relevant sectors such as Cloud computing and digital media/entertainment as yet to bear fully. 

Such numbers, coupled with growing positive operating cash flow year-on-year and enough cash and cash equivalents to cover its short/long term debts show that the company’s financials are looking pretty solid at the moment. 

Alibaba and VIEs

A Variable Interest Entity (VIE) is a legal business structure commonly used by mainland companies to establish ownership of a company through legal agreements, instead of direct share ownership.

Under a VIE structure, founders such as Jack Ma and Simon Xie form a domestic company, the actual VIE, and retains sole control of the entity.

However, they later decided to transfer ownership of 4 VIEs to select members of the Alibaba partnership, in an effort to reduce “key man risk”. The Alibaba Partnership was set up by the company to ensure that Alibaba does not rely on one or two executives in power and divides decision making among the 36 Alibaba partners.

Separately, a wholly foreign-owned enterprise (WFOE) is then set up, fully owned by a firm that is incorporated offshore.

In the case of Alibaba, it is set up in the Cayman Islands.

The VIE, which usually owns assets of the company in which foreign ownership is restricted or prohibited, then signs contracts with the WFOE allowing it to control the assets, sales, and profits belonging to the VIE.

Image result for jack ma

Shareholders essentially own stock in a shell company registered in the Cayman Islands that has a contractual relationship with the VIEs in China.

Thus, they may find it difficult to enforce their rights or have any say if the company makes drastic moves, such as transferring out licenses or technology from a previously established VIE.

There are many unknown risks that come with VIEs, as it could potentially have certain legal vulnerabilities.

Alibaba’s History with HKEX

Long before its 2014 listing in the NYSE, Alibaba initially turned to the HKEX capital market for funding in 2007.

They listed in Hong Kong with an IPO price of $13.50, attracting a record demand of more than 560,000 retail investors. 

The company generated orders worth USD $57.4 Billion from Hong Kong retail investors alone, going down in the history books as one of the most popular, frenzied and high-profiled IPOs in the city. 

The frenzy even caused delays in execution due to the sheer weight of orders flowing into the Hong Kong stock exchange’s trading system.

On its first day of trading on November 6, 2007, BABA’s shares opened at HK$30, more than double the HK$13.50 issue price. 

The company’s shares rose more than 192 per cent that day to close at HK$39.50, and became the most successful listing debut that year.

After reaching a sky-high PE ratio of 316, analysts started labelling the stock as “massively overpriced”. 

Soon, Alibaba’s share price took a plunge and this was coupled with the 2008 Stock Market Crash. Since then, it was never able to reach anywhere near its previous price of HK$30 and soon fell below its listing price in early 2011. 

In 2012, Jack Ma decided to delist the company as it would be “free from the pressure of market expectations, earnings visibility and share price fluctuations.”

He added that “A depressed share price may continue to adversely impact employee morale” 

Thus, Alibaba offered to buy back all outstanding shares at its initial offering price of $13.50 HKD and take the company private. 

In 2014, Jack Ma decided to take Alibaba public again. However, he chose to list the company in NYSE over HKSE due to some structural issues over the control of the company and the backdrop of its previous HKSE listing still fresh in their minds. 

A Change in HKEX’s Regulations

HKEX recently revisited and altered restrictions imposed on a company owning dual-class share structures, giving the opportunity for companies such as Alibaba to apply for an exemption. 

It could now accommodate the Chinese company’s dual-class share structure — which allow for weighted voting rights and give company founders and insiders more control. 

Well known companies, such as Berkshire Hathaway, Google and Alibaba, have dual-class stock structures. 

One share class is offered to the public, while the other is held by founders and insiders. 

The class offered to the public has limited or no voting rights, while the class available to founders and executives has more voting power and often provides for majority control of the company.

This provides founders and insiders with the ability to control majority voting power with a relatively small percentage of total equity. 

In Alibaba’s case, I would personally approve of the dual share class structure as the company’s visionary and brilliant founder, Jack Ma is at the helm. 

Just as one would trust Warren Buffett and Charlie Munger in having all the say in running Berkshire. I would, therefore, trust his decision making in the future of Alibaba and such a structure would cement his strong leadership. 

Ma would make decisions based on the long-term interests of the company instead of short-term financial results.

At this point, I have to make known to you Jack Ma’s resignation which I will caution is not a bad thing.

Alibaba Group has grown too large to continue to be led by a singular person and the company must now learn to move forward with an emphasis on strong organisational structure and talent development.

Personally, I’m not as worried since this is more a move to unleash Alibaba’s growth potential versus hinging entirely around one person.

Further, Jack Ma will remain on the board until at least 2020, and will still remain in the Alibaba Partnership, a group of senior managers who retain significant control over Alibaba’s business and affiliates, meaning that Alibaba will still have Jack Ma’s guidance in the years to come – just less reliance.

The US-China Trade War

Alibaba’s dual listing is also against the backdrop of the US-China Trade war, where rising tensions between the two countries have caused unrest in Chinese companies. 

After Trump had made the legendary tweet, Chinese stocks listed in the NYSE took one of the biggest hits and remained under pressure. 

Bullish sentiment on Chinese stocks quickly faded as Trump unexpectedly announced he would more than double the levies on US$200 billion worth of Chinese imports and threatened to include more items that are not covered by tariffs.

Alibaba was no exception, with the stock tanking about 16% from $178 USD to $149 USD in the days that followed. 

Trading in Hong Kong would provide a buffer if it’s New York-listed shares fell victim to global anxiety about U.S.-China tensions. 

This might also provide some currency hedging against the trade war on its equity. This is because Alibaba could potentially be trading on both sides (NYSE & HKEX) and is risk-neutral to either currency. 

This is because the HKEX consists of investors who are nearer and more exposed to the company. Thus, they would naturally exemplify more confidence towards its stock and would not be too affected by macro-volatility. 

What is Dual Listing? What Impact Does It Have on Alibaba?

Before we dive into the nitty-gritty details of Alibaba’s plans of having a second listing in HKEX yet again, let us look at what a Dual Listing entails for a company. 

Dual Listing is basically referring to a company being listed in two or more different exchanges. 

Companies use dual listing because of its benefits, such as additional liquidity, increased access to capital and the ability for its shares to trade for longer periods due to the differing time zones of the two exchanges. 

For Alibaba, a Dual Listing means that it would have increased access to a larger pool of capital. Listing nearer to the mainland would expose the company to investors who better understand, appreciate and are more exposed to the workings of the company. 

This, in turn, would potentially allow the company to have a higher valuation. 

Listing in Hong Kong would also give mainland investors direct access to one of their country’s biggest successes, via the stock connect trading link between Hong Kong, Shanghai and Shenzhen.

Photo adopted from China Daily

This listing, which could raise an estimated amount of $20 Billion USD, would close to double the company’s current war chest of around $30 Billion USD. 

This would allow the company to invest further in technology R&D and serves as a safety net in the unfortunate times of financial issues. It potentially also helps improve its access to loans from Asian Banks. 

However, Dual Listing is not without its cons. It will be expensive for the company due to the costs involved in the initial listing and ongoing listing expenses. 

Differing regulatory and accounting standards may also necessitate the need for additional legal and finance staff. 

What the Raised Capital could Potentially be Channeled Towards

The company is also expanding into new sectors including cloud computing division and Hema, its chain of brick-and-mortar supermarkets with a technological twist. The money raised could thus be utilized to fund such capital-reliant initiatives.

Alibaba’s Supermarket: HeMA

Alibaba opened 65 HeMa retail stores over the past year, in an effort to merge both online and offline retail. Inside the store, customers use an app to scan products, get information and pay for their groceries. 

Alibaba knows everything a customer has purchased, so it offers users the option in the future to quickly order the same goods to be delivered to their home.

Getting customers offline to become comfortable ordering online could be a key pillar to Alibaba’s strategy as they begin to integrate their advanced technological systems into the simple daily taskings of the lives of consumers.

Customers pay through their accounts on Taobao or Alipay, the online payment platform from Alibaba-affiliated Ant Financial. At select Hema stores, customers can even pay by scanning their faces at kiosks.

With the capital raised from the second listing, Alibaba could look towards expanding HeMa into more cities and regions domestically, as well as look towards the international expansion of its business. 

It could also potentially improve the technological systems within the high-tech supermarket to improve efficiency and customer receptivity. 

Alibaba’s Cloud Computing: Alibaba Cloud

Alibaba Cloud provides a comprehensive suite of global cloud computing services to power both our international customers’ online businesses and Alibaba Group’s own e-commerce ecosystem.

In January 2017, Alibaba Cloud became the official Cloud Services Partner of the International Olympic Committee

Alibaba will be joining the Olympics’ highest sponsorship level – alongside worldwide brands like Coke, McDonald’s and Visa.

The Olympic Committee said that Alibaba will also contribute their cloud computing infrastructure and cloud services “to help the Olympic Games operate more efficiently, effectively and securely, including supporting big data analytics requirements”.

Along with its own e-commerce businesses, Alibaba cloud has already attracted renowned customers such as KPMG, Phillips, Air Asia, Ford and Cathay Pacific. 

Its revenue of $3,681Mil USD shrinks in comparison to Amazon Web Services’ segment revenue of $26Billion USD. So Alibaba cloud could still have a long runway of expansion to come. 

With the capital raised from its second listing, it could seek to channel the funds into improving its Cloud services and data security solutions – something society is big on today.

With Alphabet/Google, Amazon, IBM, and a host of other big tech companies all leading the charge in the Western World. China’s protectionism, in this case, can be seen as a defensive moat that will allow Alibaba the time it needs to catch up or get ahead. This is a good thing for those invested in the long term outlook of Alibaba Group and China’s growth as a world superpower in the years to come.

What investors will have to watch for in the long term is that Alibaba doesn’t irresponsibly burn piles of cash on the project and fail to monetise it. That would be a strong signal to me that the Chinese eCommerce giant is flailing and unable to match its Western Counterparts and competition – particularly if it intends to ever fight them on a global scale.

Conclusion

  • Alibaba’s dual listing will give it access to shareholders who know it better and more capital to drive towards growth in cloud and offline stores.
  • Dual listing protects it somewhat from American investors who are not as close or as familiar with the stock and therefore are more ready to drop it. Plunges in share prices will be less frequent.
  • Listing so close to China can potentially sway additional companies towards listing back in HK, SZSE, and SSE.
  • Investors should not look at this negatively. A 1-to-8 share split generally means the price has appreciated too much and a singular share is too expensive, thus the split. A single Alibaba share pre-split is worth USD$174, which is around $1359.12HKD. That would be appreciably too much for the average retail investor, and splitting it 8 ways down to $170HKD puts it at a more affordable price, affording Alibaba a higher chance of clawing in capital to funnel to its growth.

This is, however, not a compelling enough reason why you should buy the stock. 

We believe that one should perform quantitative analysis on a stock before dwelling into the qualitative.

That way, we can ignore any emotional biases which can do you harm.

At Dr Wealth, we’ve developed a robust, evidence-based framework that has delivered stellar returns per year historically.

We also hold regular introductory courses to share our structured investing course called “Intelligent Investing Immersive Programme”. This is where you can learn more about our exclusive framework and ask questions on investing. You can get a free seat here.

Important Update: Reading emails in your inbox can be frustrating. We are actively trying to reduce the amount of effort you have to expend as a reader flipping through your inbox.

In that regard, we have started a telegram group chat where you can receive article updates in peace instead. You can join the telegram group chat here!

Otherwise, I hope this article has been an informative read for you. Kindly share it if you liked it!

The following two tabs change content below.

Asher Siow

Value Investor. Die-hard Liverpool Fan. Foodie.
>