Alibaba Cash Out Continues

November 4, 2014 Updated: April 24, 2016

Alibaba reported earnings Tuesday, but which numbers should we believe? The earnings number going up 15.5 percent or the one going down 39 percent?

The divergent numbers show that when it comes to earnings reporting, Alibaba follows right where it left off with its IPO: obscure accounting; executives lining their pockets and the shareholder holding the bag.

So far pre-IPO shareholders cashed in $13 billion on the day of the IPO. Some of the included strategic investors such as Yahoo and the Japanese company SoftBank. Others included current management like chairman and founder Jack Ma and vice chairman Joseph Tsai. Unlike Yahoo, they are making sure the money keeps flowing and the divergent earnings numbers are telling us how.

Share-Based Compensation

The biggest reason one number for net income is up 15.5 percent is that it follows Cayman Island accounting standards, the place where Alibaba Group Holding Ltd. is domiciled. That’s right, the country the foundation of International Financial Reporting Standards says is not moving toward a “high quality global accounting standard.”

If you are not a bank or mutual fund, you can pretty much do anything you like with your numbers, nobody will tell you off. However, if you are a U.S. listed business, you have to file numbers with the Securities and Exchange Commission that adhere to Generally Accepted Accounting Principles, a globally accepted high quality standard of accounting.

The GAAP net income was down 39 percent to $494 million in the quarter ending Sept. 30. Why? Because share-based compensation increased 250 percent to $490 million or 18 percent of revenue.

Under GAAP, companies have to match revenues with expenses and Alibaba had to recognize this compensation expense. It did not have to do this under Cayman accounting standards.

The main benefactors are members of the “executive management” team, like chairman Ma, although the report does not reveal names. On a per share basis, the numbers get even worse because the executive compensation requires new shares to be issued, diluting current and public owners. On a per share basis, net income is down 42 percent.

This practice is unfortunately not uncommon among companies across the globe, but Chinese firms seem to engage in it with special gusto. Earlier this year, it was Sina/Weibo which screwed investors out of dozens of millions in the wake of its IPO using many of the same tactics—it even used Alibaba’s help.

Market Happy

The market, as usual doesn’t care much and bid the stock up 4.2 percent to $106, despite the falling net income. Analysts think the expense was a one-off and focus more on bulging revenues and the underlying business, which seems to be doing well, even according to GAAP.

However, given Alibaba’s ownership structure, where the current management and its cronies will always have a majority on the board regardless of who owns the shares, it would be no surprise to see such a non-recurring expense recur more often than investors would like to see.