The excitement stems partly from the fact that the provider of ChinaÆs leading online trading platform has chosen to list in Hong Kong rather than following the lead of so many other Chinese technology plays which have gone public on Nasdaq. The popularity of the groupÆs founding chairman Jack Ma was also evident by the flashes that accompanied his arrival to yesterdayÆs luncheon.
However, the reputation is backed up by impressive figures such as the 87% gross margin, revenue growth of 105% in 2005 and 85% last year, and strong operating cash flows. The company currently operates two online trading platforms û one in Chinese that caters to Chinese buyers and sellers and one in English that is set up to facilitate trading between Chinese manufacturers and international importers - and according to Alexa.com, its B2B e-commerce marketplace out-ranks all Chinese competitors both in terms of the number of registered users and user traffic and on revenues and profits.
But perhaps the most important reason why institutional investors have indicated that they are willing to pay a forward earnings multiple of more than 40 times, is the massive market opportunity offered by ChinaÆs 42 million small and medium enterprises. At present, Alibaba has merely scratched the surface of this pool of potential future revenues with its 260,000 or so paying customers.
ôFrom a financial perspective this is an incredibly attractive proposition as you are buying into extremely high growth and into a business model that is highly cash generative, and from a strategic perspective you are putting your bet on ChinaÆs SMEs and their continued dominance of the export market globally,ö one observer says.
At a base size of HK$8.59 billion to HK$10.31 billion ($1.1 billion to $1.32 billion) the deal will be slightly larger than the $1 billion rumoured in the market. This will likely still not be enough to satisfy the demand, but joint bookrunners Goldman Sachs and Morgan Stanley have put a number of features in place to ensure that institutional investors will get as large a portion of this as possible.
Like many other large listing candidates with a free-float that is likely to go above HK$10 billion, Alibaba has sought and received a clawback waiver from the stock exchange that will limit the retail portion of the offering at 25% of the total rather than the usual 50%.
However, the 25% limit is slightly higher than the 20% that is the common practise for such waivers and unusually the retail portion will also start off at 15% instead of 10%. This compromise may have been agreed because of the theoretic possibility that the portion of stock in public hands could end up below the HK$10 billion threshold if the price isnÆt fixed close to the top end of the range or the greenshoe isnÆt exercised. If the retail offering is more than 10 times covered the size will increase to 17.5%, if itÆs more than 20 times covered the size will go to 20% and for the retail tranche to reach the full 25% it needs to be more than 40 times covered.
But even more surprising is the fact that the cornerstone tranche will be adjusted downwards in line with any potential clawback of the institutional tranche, meaning they could end up with only 88% of their pre-agreed allocations if the institutional portion is reduced from 85% to 75%. At the full size the cornerstone tranche amounts to $245 million, or 18.8% to 22.2% of the total deal, and of this Yahoo! will take $100 million. The US search engine provider is also an investor in the Alibaba Group which is the parent of the listing candidate.
The other cornerstones include two more strategic investors û investment firm AIG Global and ICBC (Asia), which is the Hong Kong arm of Industrial and Commercial Bank of China û as well as the families behind the Wharf Group, the Kerry Group and Sun Hung Kai Properties. The latter three will count as financial investors only, but all six cornerstones will be subject to a 24 month lockup as well as the clawback. ICBC has recently signed a cooperation agreement with Alibaba Group, which will see the bank provide online loan services to paying Alibaba.com members in China, and sources say the other cornerstones all have business relationships of one kind or another with the company that warrants them being included in this exclusive group.
Alibaba is offering 858.9 million shares at price between HK$10 and HK$12. Of the total, only 26.5% are new shares. The rest will be sold by the parent group as it seeks to monetise part of its investment. Observers say Alibaba Group is also likely to need capital to support smaller high-growth companies within the group that are still burning a lot of cash. Aside from Alibaba.com, the group has five other business units including search engine provider Yahoo! China, online payment service Alipay and Internet-based business software provider Alisoft.
However, despite the large portion of existing shares, the group is in no hurry to let go of its successful B2B platform as indicated by the fact that it is selling only 17.6% of the company post-shoe. The greenshoe accounts for 15% and could boost the total proceeds to as much as $1.5 billion.
The price range values the company at 39.9 times to 47.8 times its expected 2008 earnings, based on the consensus syndicate forecast and before stock-based compensations. While high at a first glance, this looks quite reasonable when compared with 48 times for Hong Kong-listed Tencent, which is the provider an online social networking site, and 86 times for Chinese language search engine provider Baidu.com.
Observers believe the fact that Alibaba is so well-known internationally means it will attract a greater portion of US-based investors than is normal for a Hong Kong IPO. Certainly the easy to remember price range reminds one more of a US deal than of a typical Hong Kong offering where the price range is often set to include auspicious numbers such as eight or nine and the top of the price range is more likely to be HK$11.98 than HK$12. The management is also expected to spend quite a few days of the roadshow in the US.
US investors are not likely to have forgotten BaiduÆs strong trading debut when it listed on Nasdaq in August 2005 and the prospect of being able to include another leading Chinese Internet company into their portfolios is bound to be tempting. Even if they have to send their money all the way to Hong Kong to do so.
Indeed, analysts at one of the syndicate banks say in a report that Alibaba reminds them of Chinese online ticket agency Ctrip and Baidu ôwhich took proven business models and out-executed the competition.ö
ôThis is a global Internet player,ö agrees the Hong Kong-based observer. ôIt has technology that is on the scale of eBay and it has a visionary management. Investors are investing in the online B2B unit, but they are also in a sense buying into the Internet vision of the Alibaba Group.ö
Baidu soared 353% on its first day of trading and while it gave up about half those gains over the next few months it resumed the uptrend again in early 2006. It is currently trading 1,066% above its $27 IPO price at $314.95. Ctrip has risen 447% from its IPO at $9 in 2003 and yesterday cloesd at $49.24.
What investors will have to ponder, however, is whether they believe that Alibaba will be able to maintain a critical mass of both buyers and suppliers and that it can capture many of the small Chinese entrepreneurs that are not yet conducting their business online. Another key question is whether the company will be able to convert the many parties that currently use its platforms for free into paying members that will contribute to revenues.
According to people close to the offering, the market is getting very comfortable about AlibabaÆs execution and belive that its customers are starting to appreciate the increased level of service they can get as paying members. However, in the end many investors are also likely to simply get sucked into the hype surrounding this offering. Or as one source puts it: ôThe feed-back from investors is that this is a global portfolio must-have.ö
The retail portion of AlibabaÆs offering will open on October 23 and the books will close on Friday October 26. The trading debut is set for a week later.
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