MKM Partners was upbeat on two Chinese e-commerce companies today, upgrading JD.com (JD) to Buy from Neutral and raising its price target on Alibaba (BABA) to $220 from $177.  

JD A BUY: JD.com shares have retreated due to worries about the company’s margins and competition, according to MKM analyst Rob Sanderson. However, the Chinese e-commerce market is large enough to support two strong players, and JD should benefit from strong consumption trends and the robust growth of e-commerce in China, he stated. Although JD.com has historically had low margins, its gross margins are starting to rebound, enabling it to begin to reach “sustained profitability,” Sanderson wrote. Despite the fact that JD.com offered significant discounts in the second quarter, its gross margins from direct sales rose by more than 0.5 percentage points, according to Sanderson, who expects the company’s gross margins to rise 0.1 percentage points this year, 0.2 percentage points in 2018, adding that these estimates are “conservative.” With 260M active customers, JD.com has sufficient scale to succeed, and its direct sales to consumers differentiate it from Alibaba, which uses a third party model, according to Sanderson. MKM’s surveys have found that 20% of Chinese consumers prefer the direct sales model. He raised his price target on the shares to $51 from $33.

ALIBABA: Proclaiming that the company has the best fundamentals of “all mega-cap Internet stocks,” Sanderson raised his estimate of the company’s e-commerce business growth this year to 50% from his previous estimate of a 47% increase. The company is benefiting from its 60% margin, “strong secular trends, and dominant market position,” according to Sanderson. Additionally, the analyst says that the company’s markets appear to be accelerating, while its traffic growth and personalization are enabling it to improve its monetization significantly. Moreover, Sanderson is upbeat on the company’s cloud business, saying that the move to the cloud is at an earlier stage in China than in the U.S. and that there may be less competition among cloud vendors in China than in the West. Finally, Sanderson thinks that the company should benefit from the growth of e-commerce in Southeast Asia, which is just beginning, while it may boost its results by selling more ads. He kept a Buy rating on the stock.