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Alibaba's China base is both good news and bad for IPO investors

PUBLISHED : Wednesday, 28 May, 2014, 1:00am
UPDATED : Wednesday, 28 May, 2014, 5:08am

It is easy to get caught up in the glossy numbers in Alibaba's listing prospectus: 44 per cent profit margins, 72 per cent revenue growth, and 231 million active buyers last year.

Beyond page 19 of the document, though, lies a stark reminder that investing in a Chinese company - especially one as sprawling as Alibaba - is also a wager on how well it can get along with Beijing. The company may raise as much as US$20 billion in its initial public offering later this year, 100 times more than the average Chinese offering in the United States.

Alibaba owes some, thanks to central government policies that have enabled its ascent. But that very same government could alter Alibaba's contract with US shareholders, censor its platforms and restrict the payment service that is vital to its business - any of which could impact its value to investors.

"As an investor, you're placing a bet on management's ability to negotiate what is happening on every day of the week," said Duncan Clark, the chairman of BDA China, a Beijing-based consultant to technology companies. "The management is going to be the shock absorber that navigates the big risks."

Beijing has a stake in the success of Alibaba and its peers. More than 10 million people are employed in the mainland's e-commerce sector, according to a survey by the Ministry of Human Resources and Social Security.

Government policies - in particular bans on foreign companies from Twitter to YouTube - have bolstered domestic companies. Alibaba has investments in Chinese messaging and video services.

While it is common for companies to outline worst-case scenarios in listing filings, some of the risks Alibaba raises are already affecting mainland companies traded in the US.

Mainland affiliates of the largest US accounting firms have been barred from leading audits of US-listed companies after they refused to hand the Securities and Exchange Commission documents relating to mainland operations because doing so was prohibited under mainland law.

While Alibaba's auditor - the Hong Kong affiliate of PricewaterhouseCoopers - is not subject to the ban because it is not based on the mainland, it could still be affected. If PwC cannot properly inspect Alibaba's mainland operations, the company will need to find a new auditor or, in the worst case, pull the float, according to the prospectus.

"At best, it's uncertain; at worst, you have a real downside with the SEC ban," said Brian Fox, the president of a maker of technology used by accounting firms to find fraud. "If they can't have one of the top accounting firms, that would reduce the enthusiasm to some extent and increase the risk, which would equate to the stock price eventually."

PwC's work also is not fully inspected by the independent Public Company Accounting Oversight Board - an agency created by the US Congress to oversee audits - due to central government restrictions.

"The Chinese government won't let outside regulators review the underlying work files to ascertain if the work was done according to standards," Fox said. "We've seen more fraud coming out of China as a result."

Meanwhile, Alibaba's payments affiliate, Alipay, faces tightening government oversight and anything that limits transactions on Alibaba's platforms could impact growth. The business had been planning to offer virtual credit cards until the People's Bank of China blocked their issuance in March.

Alibaba says its position as a "trusted platform" depends on Alipay, which processes more than three-quarters of all transactions on Alibaba's Chinese online marketplaces. In 2010, Alibaba transferred ownership of Alipay to a company controlled by company founder Jack Ma Yun, a move that it said was necessary because of mainland restrictions on foreign ownership.

"Alipay is so central to payment and it's why Jack decided to put it back into domestic shareholding - to insulate it effectively," Clark said.


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