Value Investor Daily #43

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China unveiled a series of stimulus measures to bolster its decelerating economy.

Does that mean the tide has turned on China’s “Big Tech” stocks? New Money on YouTube made a video covering the situation that’s worth the watch.

The Biggest Value Investing Opportunity of 2024?

With U.S. tech giants like Apple, Google, and Amazon trading at all-time highs, value investors are turning their attention elsewhere—specifically, China. Major Chinese tech companies, such as Alibaba, Tencent, and JD.com, have seen significant share price declines, presenting what some of the world's top value investors believe is a rare opportunity.

Here’s what we learned:

1. Chinese Tech Giants Are Trading at Historically Low Valuations

• Alibaba, Tencent, JD.com, and others have experienced significant share price drops, even though their underlying businesses remain fundamentally strong and highly profitable.

• For example, in 2023, Tencent generated $26 billion in operating income, while Alibaba brought in $18 billion, and JD.com generated $4.2 billion. These companies are profitable but are still trading at multi-year lows.

• The average Chinese Big Tech stock trades at 12X forward earnings, compared to 50x for their US counterparts. Both groups are expected to grow earnings by ~23% next year.

The KraneShares CSI China Internet ETF (KWEB) is down 70% from its peak in 2021.

2. Super Investors Are Holding Chinese Tech Stocks Despite Risks

• Major investors like Monish Pabrai, Guy Spier, Howard Marks, and Michael Burry have taken positions in Chinese tech stocks, particularly Alibaba and Tencent.

• Michael Burry, known for his contrarian bets and high portfolio turnover, has held Alibaba and JD.com for the past 18 months despite the short-term geopolitical concerns.

3. Risks Involved With Chinese Tech Stocks: Political and Geopolitical Factors

• The Chinese Communist Party (CCP) can interfere with the operations of these companies. Notably, in 2021, the CCP imposed a $2.8 billion antitrust fine on Alibaba and required the company to contribute $15.5 billion to the government’s “common prosperity” initiative.

• The structure of ownership through Variable Interest Entities (VIEs), where foreign investors hold shares in an offshore company rather than directly in the Chinese operating company, also poses risks. If the CCP were to crack down on this structure, it could create problems for foreign shareholders.

4. Geopolitical Concerns Weigh Heavy on Valuations

• U.S.-China tensions are also a key concern. There are worries that the U.S. could delist Chinese companies from American exchanges, which would hurt the liquidity and value of the stocks. The House passed a bill earlier this month to target and blacklist certain Chinese biotech firms.

• The Chinese economy itself is under pressure due to the government’s crackdown on real estate developers and a lack of stimulus following COVID-19. As a result, Chinese consumers are pulling back on spending, impacting the profitability of companies like JD.com and Tencent.

5. Potential for Massive Upside According to Value Investors

• Despite the risks, these stocks remain incredibly attractive to value investors because of their strong cash flows, low enterprise value to cash flow ratios, and ongoing share buybacks.

  • Alibaba is trading at a 9x free cash flow multiple, meaning it could theoretically repay its entire enterprise value in 9 years.

  • JD.com has a 7.5x enterprise value to cash flow ratio, and Baidu has a ratio of 6x.

• These companies are also buying back large amounts of stock, a sign that they themselves believe they are undervalued. In the past year, Alibaba has spent $18 billion on share repurchases.

Bottom Line

The debate over Chinese tech stocks boils down to whether the potential upside outweighs the considerable risks.

With valuations at historic lows, top investors are betting that these companies, backed by strong fundamentals, could deliver significant returns over the long run.

However, concerns about political interference and geopolitical tensions make this a highly contrarian investment.

Be sure to do your own research and decide for yourself before investing.

Thank you for reading today!

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