The downturn in the domestic Internet cloud business has passed, and AI and overseas travel are new drivers. With the end of the dividend for consumer Internet users and the macroeconomic impact on corporate IT spending, the growth rate of the domestic public cloud market slowed markedly in 21-23; the cloud business of major Internet companies represented by Alibaba slowed down revenue growth and declined share due to weak demand for cloud on the pan-Internet, difficult for government and enterprise customers to obtain, and integrated projects that actively reduce low profit margins. However, we believe that the competitiveness of domestic Internet companies will improve in the AI cloud era. Computing power (they have increased investment in purchasing chips widely, and some companies have the ability to develop their own chips), algorithms (sufficient engineer resources), and data scenarios (strong traffic entry advantage) all have advantages. Currently, all domestic Internet companies have launched large-scale models and segmented products such as Wensheng Video; the absolute value of Capex of some companies has returned to historically high levels. As Chinese companies go overseas, overseas cloud business is also increasing.

Similar to overseas, AI has driven domestic Internet cloud business and advertising business revenue growth. Referring to overseas, AI led the cloud factory's revenue growth rate upward after 23Q2, and the competitive landscape also changed; AI applications progressed relatively quickly on the B-side. The recommendation is the core implementation scenario on the C-side, while increasing the “volume” and “price” of advertising. Among domestic Internet companies, Ali and Baidu have quantified AI's contribution to the cloud business; in addition to video accounts, AI is also an important driver for the growth of Tencent's advertising revenue.

Alibaba Cloud: The Group's core strategy has returned to areas of advantage, and AI has driven a new round of growth. After Alibaba's latest strategy and organizational structure adjustments last year, Cloud clearly became the Group's core business, and CEO Wu Yongming personally took over. At the end of '23, Alibaba Cloud determined the new strategy to be “AI-driven, public cloud first”, essentially driven by returning to technology. Technology is also Alibaba Cloud's core competitiveness in AI, including 1) self-developed chips. Pingtou, the wholly-owned chip owner, had an earlier and deeper layout, forming a cost advantage; 2) model capabilities. Alibaba's big model ranked high in domestic and overseas evaluation lists. Furthermore, Alibaba's existing traditional cloud customers are all potential customers for AI cloud products. AI-related products, 24Q1-24Q2, all achieved three-digit year-on-year growth and became an important driver for Alibaba Cloud's business. We judge that AI will drive the revenue growth rate of Alibaba Cloud's business to rise further. The medium to long term depends on the actual results of the development and implementation of the AI industry. The core reason for the low profit margin of the domestic cloud business is internal price war+low profit margin integration projects; the domestic cloud factory price war still needs to pay attention to subsequent progress, but Ali has taken the initiative to reduce integrated projects, strategically focusing on public cloud products with stronger scale effects, and the overall profit margin will still rise. All of Ali's business lines have been integrated with AI, focusing on site-wide promotion results; full-site promotion is supported by LMA (Large Model for Advertising) as the underlying technology, which is expected to increase the monetization rate of small and medium-sized businesses.

Maintain profit forecasts and maintain buying ratings. Alibaba Group's overall FY2025-FY2027 revenue is estimated to be 1018.6/1093.4/1184.3 billion yuan, respectively, and adjusted net profit to mother is 157/170.6/183.8 billion yuan, respectively. Under the SOTP valuation method, the Group's overall target valuation is 2504.7 billion yuan, corresponding to the target price of 147 US dollars/ADS, corresponding to 48% upward space, corresponding to the target price of Hong Kong stocks at HK$143 per share, corresponding to an upward space of 45%, and maintaining the buying rating.

Risk warning: Macro influence on the demand of enterprises to go to the cloud. The progress of the domestic AI industry falls short of expectations, and competition among domestic cloud manufacturers is intensifying.