As I've been doing every quarter since the BABA IPO back in September of 2014, I've taken the time to listen to Thursday morning's investor call, review the presentation and read the press release and 6K for this financial dumpster fire. For me, like driving past a bad car accident on the freeway, it's difficult and painful to see, but for some reason, I can't bring myself to look away.
The relevant links to same are listed directly below for your own personal amusement and/or self-abuse.
PRESS RELEASE
https://www.alibabagroup.com/en/news/press_pdf/p190815.pdf
PRESENTATION
https://www.alibabagroup.com/en/ir/presentations/pre190815.pdf
WEBCAST
https://edge.media-server.com/mmc/p/8fyipmop
CALL TRANSCRIPT
https://finance.yahoo.com/news/alibaba-group-holding-limited-baba-163122944.html
SEC Filing - 6K
https://www.sec.gov/Archives/edgar/data/1577552/000110465919046150/a19-17229_1ex99d1.htm
SEC Filing - 20F
https://www.sec.gov/Archives/edgar/data/1577552/000104746919003492/a2238953z20-f.htm
I must say, that before we dive headlong into this looking glass, that I feel I do some of my most introspective work from the deck/cabin of a sailboat, where I wrote/researched/pondered much what I wrote over the weekend. The serenity and peace of being on the water cleanses and soothes me as I force myself to delve into this maelstrom of accounting rule abuse. Here are a few pictures from the weekend....
For those of you new to this "Alibaba Investor Call" reality show, the format for these quarterly extravaganzas is generally the same. They open up with a motivational speech by Joe Tsai, describing the nearly boundless, macro opportunities that are just waiting to jump into the lap of every US investor, if they are just bold enough and wise enough to get aboard this unstoppable Chinese Communist express train to riches.
Next Daniel Zhang stumbles and bumbles through some brand new made up metrics for a few minutes and Maggie spends some time going through the fake financial statements.
The call ends with a few analysts displaying their adoration for management genius, extolling their virtues and asking some irrelevant "if you were a tree...what kind of tree would you be?" questions.
In this particular call:
Eddie Leung - Bank of America Merrill Lynch asked about "user engagement in less developed markets" and "synergies"
Piyush Mubayi - Goldman Sachs asked about the "Internet of Things" and "5G"
Alicia Yap - Citigroup asked about the T-Mall Flagship store 2.0 upgrade and "monetization"
Grace Chen - Morgan Stanley asked about "Margin Performance" (Maggie said it was fine)
Binnie Wong - HSBC asked about the "strong top line growth"
Gregory Zhao - Barclays Capital asked about monetization in lower tier cities, efficiencies and priorities.
Jerry Liu - UBS apparently believes he works for Alibaba since he discussed "our investments that we've done so far this year " and he is "wondering if there's more monitization we can continue to do to continue this trend". I, for one, think that it's wonderful that Jerry is so helpful. He's a part of the team. "Great quarter guys!"
Now, if you have no financial background, have a love of buzzwords and can't tell a "Balance Sheet" from "Balance Shit" these quarterly calls are for you! The above questions were actually a poorly disguised trailer-load-of-irrelevant-flaming-financial-turd-softballs of misdirection aimed at all of the starry-eyed China bulls looking to buy the dip, but, in today's Topsy-Turvy financial world, this is what Alibaba's, and dare I say, securities "analysis" in general, has become.
I'm sure that the questions flying at Eddie, Piyush, Alicia, Grace, Binnie. Greg and Jerry during the inevitable Congressional hearings will be a bit more pointed than those they chose to lob at Alibaba management, but I digress. It is what it is.....
What Wasn't discussed in the Investor Call?
I actually think this is much more important than the info in the call. Here we go.
1.) Alibaba's "Core" Revenue (despite reporting 42% YOY combined growth) is probably in decline
Alibaba has been "buying" and consolidating revenue increases for years. Since there were no new acquisitions in the quarter, as described in the 6/30/19 6-K, we can assume that significant revenue increases are due to continued "step acquisitions" as described in the 20-F. When we examine Footnote 4 of the that document we see that there is a long list of these step acquisitions where a significant measure of Revenue wasn't available or allowed to be reported in the June, 2018 Quarter 20-F. Now that the company has completed additional "steps" they are able to include/consolidate this revenue. Of course, the actual consolidated revenues are no longer disclosed or described for these businesses in the filings.
Note that there is also a US$1.1 Billion dollar "other" investment which might be a lucrative source of increased reported revenue. Unfortunately, we just can't tell.
Again, BABA Management and accountants, and for that matter, every entity controlled by the Chinese Communist Party, all have a long history of liberal use of accounting methods, misrepresentation and improper application of accounting/disclosure rules to goose revenue over the years. Although we can't tell for certain, by design, since there is no disclosure of the revenue impact for the current quarter for any of these step acquisitions during the prior year, we would suspect that based on the amount of US Shareholder Capital deployed to accomplish these insider driven boondoggles that it must be substantial.
https://www.sec.gov/Archives/edgar/data/1577552/000104746919003492/a2238953z20-f.htm
Moreover, nearly every third party (Non-CPC published) metric, whether it be new car sales, electricity usage, retail spending, etc. is contracting (check any Western source). Alibaba is apparently, according to their numbers, impervious to an economic slow down, trade war, recession or any economic trade winds whatsoever. It defies logic that BABA is somehow generating organic double-digit YOY growth anywhere near what they are claiming without their typical use of accounting Shenanigans.
2.) Operating Margins and Income from Operations are actually on the decline as well
As any senior financial person knows, producing quarterly statements in a struggling organization is an iterative process. It goes something like this:
1.) The Accounting department produces the "first pass" numbers and presents them to management.
2.) Management's reaction is that "we can't show those numbers to anyone" go back and find a way to fix them.
3.) The accounting department scours the relevant accounting literature and regulations and solicits advice from their public accounts as to what they might be able to get away with, fully intending to stretch the limits of both the meaning of the rules and the spirit of the profession.
4.) Eventually, they come up with some sort of scheme generally involving the capitalization of expenditures that should have been expensed, thus deferring the expenses to future accounting periods and boosting current period profits.
5.) Depending on how aggressive the effort and how gutless the public accounting firm, the accounting team can come up with some miraculous profit/margin improvements quite quickly.
6.) Remember, for a financial professional, success is not dependent on how reasonable the adjustments are, but more so on the ability of the professional to defend it and explain it under oath with a straight face.
Here's what the Alibaba accounting team did this quarter. There are two things we can identify with relative certainty:
The first is the use of an older (2016) FASB Accounting Standard Update that they must have just stumbled across.
Press Release: (pg.23)
(1) We adopted ASU 2016-02, “Leases (Topic 842)” beginning in the first quarter of fiscal year 2020 using the modified retrospective method and no adjustments are made to the comparative periods. Adoption of the standard resulted in the recognition of operating lease right-of-use assets of approximately RMB24.9 billion and operating lease liabilities of approximately RMB19.4 billion on the consolidated balance sheet as of April 1, 2019. Operating lease right-of-use assets are included in non-current prepayments, receivables and other assets, and operating lease liabilities are included in current accrued expenses, accounts payable and other liabilities and other non-current liabilities on the consolidated balance sheets.
The net impact of adopting this accounting change is to increase "Non-Current Prepayments, Receivables and Other Assets" by $3.64 Billion with an associated improvement of $803 Million to Income from Operations in the current quarter. They don't exactly spell it out, do they? Actually, I'm surprised they disclosed anything at all.
As an aside, and just as interesting, according to the footnote, they booked the lease "Asset" entirely as long term, but the payment of the lease obligation is mostly "current"....so the payment is due this year, but the most of the value of these "assets" is to be amortized over a period of years.
The second accounting gimmick can be defined as a "generally more aggressive improvement in accounting department attitude". i.e.) Coming up with creative ways to prevent expenses from hitting the bottom line. Thanks to the miracle of double entry bookkeeping, when you prevent expenses from hitting profits, either asset values must increase (most popular) or liabilities must be understated (less popular...because the people you owe the money to, generally catch on and complain vociferously). Otherwise, without either effort (pumped asset values or missed liabilities) the books don't "balance".
Somehow the Alibaba accounting department, I'm sure championed by Maggie, implemented some sort of a plan to prevent the expenditure of money they've pissed away from hitting the bottom line. My guess is that there was a systemic push by Maggie, in each and every one of the now 1,300 consolidated operating entities, to try to determine which expenditures just might benefit future periods and therefore could be capitalized rather than expensed. Somehow, the Alibaba accounting department managed to book an increase in both long term and current "Prepayments, Receivables and Other" by $4.532 Billion in just six months, after the figure had been relatively rock-solid at about US$11 Billion for more than a year. Note that the ASU 2016-02, “Leases (Topic 842)” adjustment accounts for US$3.64 Billion of this "improvement" alone. The rest, my friends, a total of $15.956 Billion now, is a hell of a lot of prepaid postage and office supplies.
Actually, perhaps Grace Chen may have realized how implausible it might have been for margins and operating income to double as a percent of revenue in one quarter for an enterprise the size of Alibaba, so she asked about it in the Q&A. Here's her question and Maggie's response.
3.) The "Gravy Train" to Communist Party Insiders Continues
Here's what we know about Mr. Chen...
As with so many things endemic to these Chinese businesses, there's a certain level of uncomfortable weirdness associated with this enterprise, for example, they've established odd regional, global shipping offices, in seemingly random places like......
That's right....VEGAS (and Peoria) BABY!
As far as I can tell, these are the only US locations. There are no US Locations listed on the STO.cn website. I tried to check for US locations on the STOExpress.us site over a period of a few days, but the website was always down. Totally understandable....these things happen all the time at FedEX and UPS and since STO probably runs on BABA cloud servers we can also probably expect some access interruption, our computers to be occasionally infected or our identities to be stolen from time to time.....but again, I digress.
When this deal was first announced, oddly enough, the press release didn't mention anything about the RMB 5 Billion (US$730 Million @6.85:1) loan to a Communist Party Member to fund the purchase. The Reuters headline simply read:
"Alibaba invests $693 million for stake in Chinese courier STO Express"
https://www.reuters.com/article/us-sto-alibaba/alibaba-invests-693-million-for-stake-in-chinese-courier-sto-express-idUSKBN1QS0D8
So here's what we really have:
Alibaba took $730 million of US Shareholder Money and loaned it to a CPC Member, so he could create a brand new unnamed ShellCo, which will hold/acquire a 29.9% stake in STO. Further, Alibaba agreed to buy 49% of this brand new entity for RMB 4.7 Billion (US$686 Million)
If we do the math, when this transaction is completed, Alibaba will have paid US$686 Million for a 14.65% minority stake (29.9% x 49%) in STO which is currently worth $711 Million today.....not too bad, except that they've also allegedly "invested" $730 million in the loan (terms undisclosed) to Mr. Chen. Moreover, if we examine the chart above, we note that the value of STO Express was roughly a third less than it is now just a few months ago (i.e. it was worth US$470 Million before the Alibaba investment was announced and Chinese shareholders assigned the "CPC Stamp of Approval Premium" to the company).
Even if we can somehow get past the diversion of funds to a CPC Member, the odd structure of this deal and the misrepresentation and missing details in the press release, what makes this even worse is the probability that this is yet another weird, fake CPC business, shipping fentanyl and synthetic opioids around the globe, laundering money and somehow facilitating the never ending CPC dollar grab and financial asset purchases.
I might also ask, if Alibaba management was truly intent on buying a 14% stake in a goofy, hot-mess of a fake company like this, why would they go through all of this intrigue and these odd structural mechanics? Why not just call a broker and buy the shares on the exchange over the next three years? Unless, perhaps, they are setting this up to record yet another series of step acquisition "valuation gains" like they did with Alibaba Pictures, Alibaba Health, Wasu Media, Cainiao, etc. etc...to continue to goose the bottom line with fake asset valuation income...
Gotta keep the enthusiasm and the Ponzi going!
4.) Share Based Compenstion
Even though they are cooking the books, and fully understand that the business is no longer profitable/viable as currently constituted at this scale, they continue to award massive Share-Based Compensation (kickbacks to party members). US$1.036 Billion this quarter. Roughly 1/3rd of "fake" Net income.
Incredible.
5.) Ant Financial
Here's the sole note regarding the Ant Financial Royalty fees and Service Arrangement from page 12 of the press release:
"Royalty fees and software technology service fees under our profit sharing arrangement with Ant Financial amounted to RMB1,627 million (US$237 million) in the quarter ended June 30, 2019, compared to RMB910 million in the same quarter of 2018."
Yes indeed. That's all there is. I'm just going to cut and past a modified note I had from a prior post since the disclosure situation hasn't changed, I particularly liked my wording when I wrote this. Perhaps you may not have read it or remembered its relevancy.
"I think the Ant Financial reporting and relationship is great! A gigantic monopoly, with a self described market value of $150 Billion has finally made a little bit of money in a quarter!...after years of apparently undercharging its 1 billion+ customers. Even though Alipay/Ant is joined at the hip with Alibaba (and US Shareholders by default) there has never been any meaningful, verifiable financial information disclosed for this beast.
If Ant actually charged a meaningful arms length "escrow service fee" (e.g. 1% of US$ 700 Billion = US$ 7 Billion/yr.) on Alibaba transactions it would render the business model unsustainable immediately.
Could it be that these escrow payment schemes are simply the tools of "earnings management" and indeed a "state secret" as the CPC would have us believe, or is it more likely that this business is, more probably, yet another cesspool of CPC money, stolen from Chinese citizens soon to be used to facilitate the destruction of US Dollar hegemony?"
6.) The Hong Kong secondary listing wasn't mentioned.
Alibaba Management had accomplished the 8:1 share split as described in the filings, but there was no mention of a time table or plans to list the stock in Hong Kong during the investor call. I guess we are to assume that everything is just fine and dandy and on schedule....full speed ahead. What could possibly go wrong??
Summary:
I think Mark Baum (Steve Carell) said it best.....Alibaba is "dog shit wrapped in cat shit...."
The relevant links to same are listed directly below for your own personal amusement and/or self-abuse.
PRESS RELEASE
https://www.alibabagroup.com/en/news/press_pdf/p190815.pdf
PRESENTATION
https://www.alibabagroup.com/en/ir/presentations/pre190815.pdf
WEBCAST
https://edge.media-server.com/mmc/p/8fyipmop
CALL TRANSCRIPT
https://finance.yahoo.com/news/alibaba-group-holding-limited-baba-163122944.html
SEC Filing - 6K
https://www.sec.gov/Archives/edgar/data/1577552/000110465919046150/a19-17229_1ex99d1.htm
SEC Filing - 20F
https://www.sec.gov/Archives/edgar/data/1577552/000104746919003492/a2238953z20-f.htm
I must say, that before we dive headlong into this looking glass, that I feel I do some of my most introspective work from the deck/cabin of a sailboat, where I wrote/researched/pondered much what I wrote over the weekend. The serenity and peace of being on the water cleanses and soothes me as I force myself to delve into this maelstrom of accounting rule abuse. Here are a few pictures from the weekend....
For those of you new to this "Alibaba Investor Call" reality show, the format for these quarterly extravaganzas is generally the same. They open up with a motivational speech by Joe Tsai, describing the nearly boundless, macro opportunities that are just waiting to jump into the lap of every US investor, if they are just bold enough and wise enough to get aboard this unstoppable Chinese Communist express train to riches.
Next Daniel Zhang stumbles and bumbles through some brand new made up metrics for a few minutes and Maggie spends some time going through the fake financial statements.
The call ends with a few analysts displaying their adoration for management genius, extolling their virtues and asking some irrelevant "if you were a tree...what kind of tree would you be?" questions.
In this particular call:
Eddie Leung - Bank of America Merrill Lynch asked about "user engagement in less developed markets" and "synergies"
Piyush Mubayi - Goldman Sachs asked about the "Internet of Things" and "5G"
Alicia Yap - Citigroup asked about the T-Mall Flagship store 2.0 upgrade and "monetization"
Grace Chen - Morgan Stanley asked about "Margin Performance" (Maggie said it was fine)
Binnie Wong - HSBC asked about the "strong top line growth"
Gregory Zhao - Barclays Capital asked about monetization in lower tier cities, efficiencies and priorities.
Jerry Liu - UBS apparently believes he works for Alibaba since he discussed "our investments that we've done so far this year " and he is "wondering if there's more monitization we can continue to do to continue this trend". I, for one, think that it's wonderful that Jerry is so helpful. He's a part of the team. "Great quarter guys!"
Now, if you have no financial background, have a love of buzzwords and can't tell a "Balance Sheet" from "Balance Shit" these quarterly calls are for you! The above questions were actually a poorly disguised trailer-load-of-irrelevant-flaming-financial-turd-softballs of misdirection aimed at all of the starry-eyed China bulls looking to buy the dip, but, in today's Topsy-Turvy financial world, this is what Alibaba's, and dare I say, securities "analysis" in general, has become.
I'm sure that the questions flying at Eddie, Piyush, Alicia, Grace, Binnie. Greg and Jerry during the inevitable Congressional hearings will be a bit more pointed than those they chose to lob at Alibaba management, but I digress. It is what it is.....
What Wasn't discussed in the Investor Call?
I actually think this is much more important than the info in the call. Here we go.
1.) Alibaba's "Core" Revenue (despite reporting 42% YOY combined growth) is probably in decline
Alibaba has been "buying" and consolidating revenue increases for years. Since there were no new acquisitions in the quarter, as described in the 6/30/19 6-K, we can assume that significant revenue increases are due to continued "step acquisitions" as described in the 20-F. When we examine Footnote 4 of the that document we see that there is a long list of these step acquisitions where a significant measure of Revenue wasn't available or allowed to be reported in the June, 2018 Quarter 20-F. Now that the company has completed additional "steps" they are able to include/consolidate this revenue. Of course, the actual consolidated revenues are no longer disclosed or described for these businesses in the filings.Note that there is also a US$1.1 Billion dollar "other" investment which might be a lucrative source of increased reported revenue. Unfortunately, we just can't tell.
Again, BABA Management and accountants, and for that matter, every entity controlled by the Chinese Communist Party, all have a long history of liberal use of accounting methods, misrepresentation and improper application of accounting/disclosure rules to goose revenue over the years. Although we can't tell for certain, by design, since there is no disclosure of the revenue impact for the current quarter for any of these step acquisitions during the prior year, we would suspect that based on the amount of US Shareholder Capital deployed to accomplish these insider driven boondoggles that it must be substantial.
https://www.sec.gov/Archives/edgar/data/1577552/000104746919003492/a2238953z20-f.htm
Moreover, nearly every third party (Non-CPC published) metric, whether it be new car sales, electricity usage, retail spending, etc. is contracting (check any Western source). Alibaba is apparently, according to their numbers, impervious to an economic slow down, trade war, recession or any economic trade winds whatsoever. It defies logic that BABA is somehow generating organic double-digit YOY growth anywhere near what they are claiming without their typical use of accounting Shenanigans.
2.) Operating Margins and Income from Operations are actually on the decline as well
As any senior financial person knows, producing quarterly statements in a struggling organization is an iterative process. It goes something like this:
1.) The Accounting department produces the "first pass" numbers and presents them to management.
2.) Management's reaction is that "we can't show those numbers to anyone" go back and find a way to fix them.
3.) The accounting department scours the relevant accounting literature and regulations and solicits advice from their public accounts as to what they might be able to get away with, fully intending to stretch the limits of both the meaning of the rules and the spirit of the profession.
4.) Eventually, they come up with some sort of scheme generally involving the capitalization of expenditures that should have been expensed, thus deferring the expenses to future accounting periods and boosting current period profits.
5.) Depending on how aggressive the effort and how gutless the public accounting firm, the accounting team can come up with some miraculous profit/margin improvements quite quickly.
6.) Remember, for a financial professional, success is not dependent on how reasonable the adjustments are, but more so on the ability of the professional to defend it and explain it under oath with a straight face.
Here's what the Alibaba accounting team did this quarter. There are two things we can identify with relative certainty:
The first is the use of an older (2016) FASB Accounting Standard Update that they must have just stumbled across.
Press Release: (pg.23)
(1) We adopted ASU 2016-02, “Leases (Topic 842)” beginning in the first quarter of fiscal year 2020 using the modified retrospective method and no adjustments are made to the comparative periods. Adoption of the standard resulted in the recognition of operating lease right-of-use assets of approximately RMB24.9 billion and operating lease liabilities of approximately RMB19.4 billion on the consolidated balance sheet as of April 1, 2019. Operating lease right-of-use assets are included in non-current prepayments, receivables and other assets, and operating lease liabilities are included in current accrued expenses, accounts payable and other liabilities and other non-current liabilities on the consolidated balance sheets.
The net impact of adopting this accounting change is to increase "Non-Current Prepayments, Receivables and Other Assets" by $3.64 Billion with an associated improvement of $803 Million to Income from Operations in the current quarter. They don't exactly spell it out, do they? Actually, I'm surprised they disclosed anything at all.
As an aside, and just as interesting, according to the footnote, they booked the lease "Asset" entirely as long term, but the payment of the lease obligation is mostly "current"....so the payment is due this year, but the most of the value of these "assets" is to be amortized over a period of years.
The second accounting gimmick can be defined as a "generally more aggressive improvement in accounting department attitude". i.e.) Coming up with creative ways to prevent expenses from hitting the bottom line. Thanks to the miracle of double entry bookkeeping, when you prevent expenses from hitting profits, either asset values must increase (most popular) or liabilities must be understated (less popular...because the people you owe the money to, generally catch on and complain vociferously). Otherwise, without either effort (pumped asset values or missed liabilities) the books don't "balance".
Somehow the Alibaba accounting department, I'm sure championed by Maggie, implemented some sort of a plan to prevent the expenditure of money they've pissed away from hitting the bottom line. My guess is that there was a systemic push by Maggie, in each and every one of the now 1,300 consolidated operating entities, to try to determine which expenditures just might benefit future periods and therefore could be capitalized rather than expensed. Somehow, the Alibaba accounting department managed to book an increase in both long term and current "Prepayments, Receivables and Other" by $4.532 Billion in just six months, after the figure had been relatively rock-solid at about US$11 Billion for more than a year. Note that the ASU 2016-02, “Leases (Topic 842)” adjustment accounts for US$3.64 Billion of this "improvement" alone. The rest, my friends, a total of $15.956 Billion now, is a hell of a lot of prepaid postage and office supplies.
Actually, perhaps Grace Chen may have realized how implausible it might have been for margins and operating income to double as a percent of revenue in one quarter for an enterprise the size of Alibaba, so she asked about it in the Q&A. Here's her question and Maggie's response.
Grace Chen -- Morgan Stanley -- Analyst
Thank you. Thank you very much for taking my call. In this call, it's very encouraging to see Alibaba's strong margin performance, so it would be great if management could elaborate a bit more about what efforts management has done to help improve the margin performance, especially in core commerce and digital media and entertainment, and where we're going to see the strong margin performance will continue in the following quarters. Congratulations. Thank you.
Maggie Wu -- Chief Financial Officer
Thank you, Grace, for the question. Let me elaborate on what we have done to bring out operating efficiency. First of all, the revenue growth is very strong. That's obviously coming from -- driven by user growth, and also, all of our efforts on user experience enhancement have paid off. Now, when you look at the costs and expenditures, we started late last year emphasizing on all of the efficiency of this spending, not only on the marketing, but also on the headcount (Author's Note: Headcount increased by 1,748 people from the last quarter), the accountants, et cetera. So, we do have specific measures to the team to review and measure the ROI of this spending. That's No. 1.
No. 2 is that we have seen so much synergy coming out of not only Alibaba Group, but also a synergy with our sister company. So, things like marketing spending -- we're targeting another 200-300 million of potential users -- consumers -- coming to our platform. So, this is also the target of Ant Financial, and this is where we can work together. They are good at acquiring consumers in the lower-tier cities, and Taobao is good at retaining these consumers so that we don't have to spend it twice. It's a very effective way of doing the marketing on the core users. I hope that helps.
Oh, DME -- you see the negative margins get narrowed, so, 65% negative margin from last year and 35%. Actually, there was a one-off last year, which was the World Cup spending, so if you take that out, last year's negative EBITA margin would have been somewhere around 42%, but still down by a lot. I think the DME negative margin narrowing is mainly coming from our discipline on the spending, particularly in the content spending.
Based on the accounting shenanigans I described above, when I heard Maggie's response, the unprecedented level of lameness actually convulsed me. My gag reflex kicked in and I did everything I could to keep from puking on my laptop.
Let's be clear, Maggie is the Chief Financial Officer of this mess. She is either the most incompetent, clueless financial person in history (doubtful) or, more probably, the criminal mastermind of this poorly constructed and relatively obvious financial fraud.
Deploying our patented Dick Fuld Banker Speak Translator (BST) here's how Maggie really meant to answer Grace's question if she were fully transparent:
Maggie Wu -- Chief Financial Officer
Thank you, Grace, for the question. Yes, it's true, our margins have improved at an unbelievable pace through this last quarter. We are brilliant accounting professionals to be sure. The improvement is due primarily from our analysis of all the money we've wasted building software, marketing, kickbacks and dumb-ass projects that just don't work, probably never will and are not yet being used by anybody. Since it's so cutting edge, we've determined that, even though it's "useless shit" (technical term) right now, we've capitalized all of the costs, payroll and kickbacks associated with these projects because, by definition, if these payments don't benefit the business in the current quarter, they will surely benefit the business sometime in the future. In any event, we are amortizing the cost of all of these tiny, immaterial projects scattered over our 1,300 consolidating operating entities (so PWC can't possibly figure this out) over 5 years rather than expense these costs in the current period, as we had been incorrectly doing in prior quarters. Lucky we caught it! Also, Joe told me that I had to "hit the number or else my next vacation will be in Xinjiang" so we came up with this cockamamie crock of steaming turds of an accounting change, ran it by PWC, increased their fees and just hope that dumb-ass US Investors don't catch on to what we're doing. Anyway, I'm safe in China so if that ungrateful bastard Jay Clayton has any problem with what we're doing, after all of the fees we paid him at Sullivan & Cromwell, he and his SEC and that pain int the ass FBI can stick their subpoenas "where the sun don't shine".
Next question?
Next question?
That said, as described in the schedule below, when we compare the June, 2019 to the March 2019 and the June, 2018 quarters, reversing the accounting adjustment for the Capitalized leases and the unreasonable increases in "Prepayments, Receivables and Other" costs of unknown origin, which were likely capitalized rather than expensed, we can conclude that Alibaba is actually making very little money from operations. "Income from Operations" is reduced to roughly 3% of Revenue and there's a good chance, based on the continued, expected lack of veracity of their filings, even this figure is probably still overstated.
It's not often you see a business loan hundreds of millions of dollars of US Shareholder money to a Chinese Communist Party member, but incredibly, Alibaba has done it not once, but twice. The first time was the Simon Xie debacle, where, after running afoul of the SEC for making a direct loan to Simon, BABA restructured the loan and purchased US$1.1 Billion of wealth management products to be pledged as collateral for an unnamed Chinese bank to make the loan to Simon in order to purchase a controlling interest in Wasu Media (Which Alibaba also has an undeterminable ownership position through another partnership controlled by Jack Ma and Yuzhu Shi) is described on pages 42 & 202 of the 2019 20-F. This is of course, ongoing with Alibaba advancing Simon additional money to pay interest on the outstanding loan. To be frank, that's never a good sign.
The most recent US$ 730 Million dollar loan (@6.85:1) to a Chinese Communist Party member occurred just a few months ago in March of this year. The transaction is described below in footnote 4(k) of the 20F.
(k) STO Express Co., Ltd. ("STO Express")
STO Express, a company that is listed on the Shenzhen Stock Exchange, is one of the leading express delivery services companies in the PRC. In March 2019, the Company made a loan to the controlling shareholder of STO Express with a principal amount of RMB5.0 billion for a term of three years. The controlling shareholder of STO Express has pledged a portion of its equity interest in STO Express in relation to the loan. The loan is accounted for at amortized cost and is recorded under investment securities (Note 11) on the consolidated balance sheets.
In addition, the Company entered into a share purchase agreement to acquire a 49% equity interest in an investment vehicle to be established by the controlling shareholder, which will hold a 29.9% equity interest in STO Express for a cash consideration of RMB4.7 billion. The completion of this transaction is subject to customary closing conditions.
Here's what we know about Mr. Chen...
As with so many things endemic to these Chinese businesses, there's a certain level of uncomfortable weirdness associated with this enterprise, for example, they've established odd regional, global shipping offices, in seemingly random places like......
That's right....VEGAS (and Peoria) BABY!
As far as I can tell, these are the only US locations. There are no US Locations listed on the STO.cn website. I tried to check for US locations on the STOExpress.us site over a period of a few days, but the website was always down. Totally understandable....these things happen all the time at FedEX and UPS and since STO probably runs on BABA cloud servers we can also probably expect some access interruption, our computers to be occasionally infected or our identities to be stolen from time to time.....but again, I digress.
When this deal was first announced, oddly enough, the press release didn't mention anything about the RMB 5 Billion (US$730 Million @6.85:1) loan to a Communist Party Member to fund the purchase. The Reuters headline simply read:
"Alibaba invests $693 million for stake in Chinese courier STO Express"
https://www.reuters.com/article/us-sto-alibaba/alibaba-invests-693-million-for-stake-in-chinese-courier-sto-express-idUSKBN1QS0D8
So here's what we really have:
Alibaba took $730 million of US Shareholder Money and loaned it to a CPC Member, so he could create a brand new unnamed ShellCo, which will hold/acquire a 29.9% stake in STO. Further, Alibaba agreed to buy 49% of this brand new entity for RMB 4.7 Billion (US$686 Million)
If we do the math, when this transaction is completed, Alibaba will have paid US$686 Million for a 14.65% minority stake (29.9% x 49%) in STO which is currently worth $711 Million today.....not too bad, except that they've also allegedly "invested" $730 million in the loan (terms undisclosed) to Mr. Chen. Moreover, if we examine the chart above, we note that the value of STO Express was roughly a third less than it is now just a few months ago (i.e. it was worth US$470 Million before the Alibaba investment was announced and Chinese shareholders assigned the "CPC Stamp of Approval Premium" to the company).
Even if we can somehow get past the diversion of funds to a CPC Member, the odd structure of this deal and the misrepresentation and missing details in the press release, what makes this even worse is the probability that this is yet another weird, fake CPC business, shipping fentanyl and synthetic opioids around the globe, laundering money and somehow facilitating the never ending CPC dollar grab and financial asset purchases.
I might also ask, if Alibaba management was truly intent on buying a 14% stake in a goofy, hot-mess of a fake company like this, why would they go through all of this intrigue and these odd structural mechanics? Why not just call a broker and buy the shares on the exchange over the next three years? Unless, perhaps, they are setting this up to record yet another series of step acquisition "valuation gains" like they did with Alibaba Pictures, Alibaba Health, Wasu Media, Cainiao, etc. etc...to continue to goose the bottom line with fake asset valuation income...
Gotta keep the enthusiasm and the Ponzi going!
4.) Share Based Compenstion
Even though they are cooking the books, and fully understand that the business is no longer profitable/viable as currently constituted at this scale, they continue to award massive Share-Based Compensation (kickbacks to party members). US$1.036 Billion this quarter. Roughly 1/3rd of "fake" Net income.
Incredible.
5.) Ant Financial
Here's the sole note regarding the Ant Financial Royalty fees and Service Arrangement from page 12 of the press release:
"Royalty fees and software technology service fees under our profit sharing arrangement with Ant Financial amounted to RMB1,627 million (US$237 million) in the quarter ended June 30, 2019, compared to RMB910 million in the same quarter of 2018."
Yes indeed. That's all there is. I'm just going to cut and past a modified note I had from a prior post since the disclosure situation hasn't changed, I particularly liked my wording when I wrote this. Perhaps you may not have read it or remembered its relevancy.
"I think the Ant Financial reporting and relationship is great! A gigantic monopoly, with a self described market value of $150 Billion has finally made a little bit of money in a quarter!...after years of apparently undercharging its 1 billion+ customers. Even though Alipay/Ant is joined at the hip with Alibaba (and US Shareholders by default) there has never been any meaningful, verifiable financial information disclosed for this beast.
If Ant actually charged a meaningful arms length "escrow service fee" (e.g. 1% of US$ 700 Billion = US$ 7 Billion/yr.) on Alibaba transactions it would render the business model unsustainable immediately.
Could it be that these escrow payment schemes are simply the tools of "earnings management" and indeed a "state secret" as the CPC would have us believe, or is it more likely that this business is, more probably, yet another cesspool of CPC money, stolen from Chinese citizens soon to be used to facilitate the destruction of US Dollar hegemony?"
6.) The Hong Kong secondary listing wasn't mentioned.
Alibaba Management had accomplished the 8:1 share split as described in the filings, but there was no mention of a time table or plans to list the stock in Hong Kong during the investor call. I guess we are to assume that everything is just fine and dandy and on schedule....full speed ahead. What could possibly go wrong??
Summary:
I think Mark Baum (Steve Carell) said it best.....Alibaba is "dog shit wrapped in cat shit...."
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