Internet & Tech

The trillion dollar wall

Latest Tencent revenue drop was rare but has investors asking questions

Tencent-w

Tencent’s market value has dropped 60% from its peak last year

Early last year Tencent was on the verge of a major milestone – a market capitalisation of $1 trillion, putting it in the rarefied company of heavyweights like Apple, Alphabet, Amazon and Microsoft.

But the threshold was never reached and instead Tencent’s shares have reversed in spectacular fashion: the social media and gaming giant is now worth less than $400 billion, a dramatic decline from its peak.

For most of the reasons why, look no further than the Chinese government’s souring relationship with the country’s leading internet firms, triggered by the confrontation with Ant Group in late 2020. Months of regulatory review and official censure have steamrollered through the sector, depressing the share prices of the main players.

Beijing’s crackdown on big tech companies has slammed the brakes on years of blistering growth across the industry, but especially for so-called ‘platform’ companies with hundreds of millions of daily users. It’s not just Tencent that’s feeling the impact: sales were flat at Alibaba in its most recent results, released at the start of August, and JD.com just posted its slowest year-on-year revenue growth on record this week.

There’s been talk that the authorities might be softening their stance as part of efforts to get the economy growing faster again and Martin Lau, Tencent’s president, stressed the point during last week’s earnings call that there hasn’t been any new regulations so far this year that have been “materially detrimental” to the industry. But that didn’t translate into an improvement in Tencent’s fortunes in its most recent quarter, when it posted its first-ever quarterly decline in revenues of 3% from a year earlier. Adjusted net profit, which excludes its investments and other one-time items, fell 17% to Rmb28 billion and Tencent took the axe to its workforce for the first time in eight years, cutting headcount by nearly 5,500.

Analysts have blamed the sobering figures on the pandemic and its deadening impact on the wider economy. Months of Covid-related disruption have taken a heavy toll, making consumers more cautious about spending. Advertisers have cut their promotional budgets across platforms like WeChat and Tencent Video as a result, prompting an 18% decline in the company’s sales of online advertising over the period.

Sales at Tencent’s fintech arm – anchored around its app WeChat Pay – have also been hit by the wider slowdown in the economy, which has squeezed the flow of digital payments.

The news was similarly bleak for Tencent’s video game business – traditionally the top performer in sales terms – where revenues dropped 1% over the period. Company bosses acknowledged that the domestic gaming sector has been struggling with “transitional challenges”. But perhaps more to the point, Tencent is suffering because it is being prevented from releasing new titles to market, even though regulators restarted the games approval process in April after an eight-month freeze. Commentators are speculating that Tencent is being deliberately held back to give smaller game developers the chance to challenge the dominant force in the market. And in the meantime players are leaking away to newer alternatives. Spending on Honor of Kings – a longstanding favourite in the Tencent stable – has declined for three consecutive months since May, according to data from SensorTower.

Tencent will make the argument that adjusted profits came in better than expectations, after stripping out one-time gains or losses from associates including JD.com, where Tencent has been selling down its stake. Advertising revenues in its core business also started to improve towards the end of the quarter, with the worst of the declines reported over the first two months.

Tencent’s operations still feed from a massive customer base too: as of the end of June, combined monthly active users of WeChat reached about 1.3 billion people, up from 1.25 billion a year ago.

There are other reasons to be optimistic that the company can get back to growth, says Charlene Liu, HSBC’s head of internet and gaming research for Asia. Front and centre is the new short video platform, known as Channels in WeChat, which was a bright spot in the second quarter. Total video views rose 200% year-on-year, while views based on algorithm recommendations jumped 400%, the company said. Advertising around the video accounts is a new market that shouldn’t cannabilise current sales, bringing at least Rmb1 billion by the second quarter of next year.

In the meantime Tencent bosses are adjusting to new realities by exiting non-core businesses such as online education and closing its internet search app Sogou (paradoxically, its bitter rival Bytedance quietly launched a new search engine this month named Wukong – advert-less and designed to displace Baidu as the leader in this space). Management also cut the company’s marketing spend by a fifth in the latest quarter.

Another option for boosting returns to shareholders is selling some of its stakes in other businesses, where its holdings in listed companies (excluding its subsidiaries) were still worth about $90 billion at the end of March. That’s down dramatically from about $200 billion a year earlier but the chance is still there to book profits on some of these stakes, including holdings in e-commerce platform Pinduoduo, video streamer Kuaishou and (embattled) ride-hailing leader Didi. Overseas there are investments in companies like Tesla and Spotify as well.

In a similar vein there was speculation last week that Tencent was in discussions about a sale of its stake in delivery platform Meituan, worth more than $24 billion, according to Reuters. James Mitchell, its chief strategy officer, denied the reports of the Meituan sale, saying that Tencent was more focused on returning capital to shareholders through stock buybacks and dividends. But divestments of a few of Tencent’s other holdings might be seen positively by the government, which frets that the biggest internet platforms have too much influence. “Regulators are apparently not happy that tech giants like Tencent have invested in and even become a big backer of various tech firms that run businesses closely related to people’s livelihoods in the country,” one of the sources on the story about the Meituan sale told Reuters.

In the era of ‘Common Prosperity’ it may be that Tencent was just too successful at spreading its tentacles, even if its boss Pony Ma was a model of low-key humility compared to the more rhetorically provocative Alibaba founder Jack Ma. Perhaps the bigger question for analysts and economists is whether ‘clipping the tentacles’ of Tencent will inhibit broader innovation in the tech sector – where its funds and ecosystem were major boons for its smaller ‘client state’ firms – or make the sector less oligopolistic and ultimately more competitive.


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