"Pride comes before a fall," is an apt description for how markets lose touch with reality in the run up to an IPO, only to suffer the consequences later. But investors in last week's blockbuster listing, Alibaba (BABA), have escaped pretty much unscathed for now. Shares in the Chinese e-commerce titan soared as much as 38 per cent to give it a $230bn (£140bn) valuation, making it the biggest float in stock market history.
One need only look at Alibaba's phenomenal size to see what all the fuss is about. It recorded nearly $250bn in transactions last year - more than Amazon (US: AMZN) and eBay (US: EBAY) combined - and is responsible for four-fifths of e-commerce volume in China. It grew its active users by more than half to 279m in the 12 months ended June. And it has posted compound annual growth of 68 per cent over the past five years, as well as more than doubling its cash profit margin.
The question now is whether Alibaba can live up to investors' lofty expectations. Analysts expect it to increase sales by about a third annually over the next few years. That's certainly possible, given the rapid growth of consumer spending and e-commerce activity in China and the nation's low internet penetration. Online sales in China have more than doubled over the past two years, and are projected to double again between 2013 and 2016. And with only 618m internet users nationwide, more than half the population is not yet online.
But the news that China may miss its target of 7.5 per cent GDP growth this year, as it shifts its economy towards consumption rather than property development and foreign investment, could spell trouble. There are other signs of a national slowdown, with industrial production at its lowest level since 2008.
And investors may have other reasons to worry. Alibaba expects average spend per user to rise, but it could shrink as the group enters less affluent areas of China. Its planned expansion in the US and Europe will undoubtedly require investment, driving its costs higher. Moreover, its dominance in the Chinese e-commerce market is under attack by rivals such as JD.com, and Amazon will certainly fight to keep its customers.
Alibaba's float has had implications for many companies, and not just its competitors. Stocks that previously served as proxies for Alibaba, such as stakeholders Softbank and Yahoo, have slumped as investors can now buy the real thing.
Alibaba has also tested investors' patience by spending $4.6bn on acquisitions of dubious value. They include a film production company, a Chinese football team and a stake in Singapore's national postal service. The result of Alibaba's rapid expansion and investment has been its operating margin shrinking from 51 to 43 per cent.
Founder Jack Ma has pitched Alibaba as a safe way to ride the wave of Chinese e-commerce, without running foul of China's notorious corruption and state intervention. But recent events and the group's structure don't inspire confidence - trading in one of Alibaba's subsidiaries, Alibaba Pictures, was recently suspended due to suspicious accounting. Moreover, Alibaba's business is largely run through a vehicle registered in the Cayman Islands that uses 'variable-interest entities' to simulate ownership of shares. And company insiders are not subject to the traditional lock-up that prevents them from selling shares in the six months after float, while a handful of Mr Ma's associates have the power to elect the board.
Broker Cantor Fitzgerald, which has a $90 price target on Alibaba's shares, believes the group's strong brand and unmatched scale give it an "unfair" advantage over its rivals worldwide. It expects pre-tax profit of $6.82bn this year, giving EPS of $2.37, up from $4.31bn and $1.61 last year.
